PCE Report: The “Inflation Bump” Just Got Bigger (SP500)

The February PCE inflation report

The US Bureau of Labor launched the February PCE inflation information. The highlights are:

• the core PCE inflation elevated by 0.3% MoM, as anticipated, and a pair of.8% YoY additionally as anticipated, down from 2.9% in January – so technically the disinflationary course of continues.
• the headline PCE inflation additionally elevated by 0.3% MoM, which is under the 0.4% consensus expectations, and a pair of.5% YoY as anticipated, however that is greater in comparison with the January studying of two.4% – thus the headline PCE inflation is on the rise.
• Nevertheless, it is very important level out that there have been important revisions to the January PCE inflation readings.
  • the core PCE inflation for January was revised greater from 0.4% MoM to 0.5% MoM.
  • the headline PCE inflation was additionally revised greater from 0.3% MoM to 0.4% MoM.

So, what are the implications of the February PCE inflation information?

To begin with, the February PCE inflation information confirms the February CPI inflation information. Each inflation readings are nonetheless nicely above the Fed’s goal of 0.1-0.2% month-to-month inflation, and point out that the January “spike” is not only a seasonal situation.

The macro context

The Fed has said that the rise within the month-to-month CPI and PCE inflation in January and February is simply “a bump” on the way in which to the two% inflation goal over time.

Thus, the Fed’s view is that it shouldn’t overreact to the lately “scorching” inflation readings. Extra importantly, the Fed said that it’s nonetheless on observe to chop rates of interest thrice in 2024 – regardless of the present “inflationary bump”.

Clearly, the Fed anticipates that the month-to-month inflation readings will return to the 0.1-0.2% vary, which is in step with the two% annual goal. Be aware, a 0.3% month-to-month inflation is in step with the three.5% annual inflation, and that is needs to be unacceptably excessive if it stays constant.

The Fed at present must see extra proof to get the “better confidence” that inflation is on the sustainable path to the two% inflation goal over time – earlier than truly beginning to lower rates of interest, as signaled within the march SEP dop-plot.

Be aware, the Fed’s most well-liked inflation metric is the core PCE inflation, which is mostly 0.5% greater on an annual foundation than the core CPI inflation. That is why the PCE inflation report is extra vital than the CPI inflation report – though the CPI report is launched earlier within the month, and thus supplies the clue in regards to the PCE inflation information.

So, what did the Fed study from the February PCE report?

The “inflation bump” bought larger

The revision to the January core PCE inflation is critical – the core PCE inflation in January spiked by 0.5% (revised from 0.4%), and that’s round 6% annualized. Thus, the inflation bump bought larger.

Extra importantly, if the January core PCE inflation spike was one-off, the February core PCE could be a lot decrease. The truth that the February core PCE got here at 0.3% alerts that inflationary pressures are constructing.

Right here is the chart of the core PCE month over month.

What’s driving the “inflationary bump”?

• First, the worth of products spiked by 0.5% in February, after lowering by 0.2% in January. Extra particularly, the worth of non-durable items spiked by 0.7% in February.
• Extra importantly, the worth of sturdy items elevated by 0.2% in February, which matches the 0.2% enhance in January. This follows six months of falling sturdy items costs. The disinflationary course of has been progressing primarily as a result of falling sturdy items costs because the post-pandemic provide chain disruptions eased. Nevertheless, over the past two months, the costs of sturdy items have been rising – and this means that the deflationary impact of sturdy items costs has ended.
• The service inflation elevated by 0.3% MoM in February, which is lower than 0.6% spike in January – and that is what induced the core PCE studying in February to drop under 0.5% spike in January. Nevertheless, given the robust labor market, it’s affordable to anticipate a pickup in service inflation over the following few months.
• Thus, it is rather unlikely that the January spike in inflation is only a “bump”, the sturdy items costs are rising, and repair inflation continues to be an issue because of a powerful labor market.

Right here is the BLS desk with PCE inflation information;

Implications

The February PCE inflation information confirms that the inflationary pressures are constructing and that the January inflation spike is much more critical. Sturdy items costs have been rising now for 2 months, and this pattern is prone to proceed. The service costs are additionally prone to keep elevated as a result of robust labor market.

The Fed can’t get any confidence from the February PCE inflation information that inflation is falling to the two% goal. Quite the opposite, it seems that the inflation pressures are constructing.

Thus, primarily based on the proof to date in 2024, the Fed just isn’t going to have the ability to lower rates of interest in June, because the market at present expects.

It’s extra possible that the Fed will finally lower rates of interest in response to the weakening labor market and a recession. When will the recession hit? The longer the yield curve stays inverted, the upper the recession chance, and we’ve got a report lengthy yield curve inversion at present. The primary signal of a recession will possible be the spike within the weekly claims for unemployment, and we’re not there but. Some suppose the recession will hit after the elections in November.

The S&P500 (SP500) has been rising for the reason that Fed’s dovish flip in November. The February PCE inflation report is unlikely to trigger the selloff, because it solely confirms the February CPI inflation information.

Thus, the following set off for a major correction in S&P500 would be the CPI report for March. If it confirms that the inflationary pressures are constructing and rejects the inflation bump thesis, the correction could possibly be important. Till then, my score for S&P500 continues to be a Maintain.