by Bryan Perry
January 23, 2024
It seems by now that even people without a penny in the stock market have heard that the Fed’s target rate for inflation and cutting interest rates is 2%. And while that objective sounds terrific, the world we live in is experiencing upward pricing pressure that makes this target elusive and seemingly unrealistic.
Within the latest Consumer Price Index (CPI) report for December, there were some components that highlight certain aspects of the economy that are experiencing ongoing higher costs associated with specific long-term underlying conditions that will not be resolved anytime soon. To the market’s credit, and to the consumer as well, some things are probably going to remain expensive indefinitely.
The total CPI was up 3.4% year-over-year, versus 3.1% in November, and core CPI was up 3.9% versus 4.0% in November. The key takeaway from this report is that inflation, while improved, has lost some of its downward momentum. Therefore, the Fed isn’t likely to be in a rush to cut interest rates – at least not based on this latest CPI reading. The higher-for-longer language can be squarely applied to shelter costs.
Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.
Breaking down the CPI report further, it is clear that the cost of shelter, be it home ownership or rental units, remains stubbornly high. Strip out the cost of putting a roof over your head and inflation is running at 1.9%, but the shelter component is the biggest component of the CPI and it is a large pull on household budgets due to an ongoing supply shortage of affordable housing in the most desirable cities.
According to the CPI, released January 11, the shelter index increased 6.2% over the last year, accounting for over two thirds of the total increase in the “all items” total, less food and energy.
Some key data from the CPI include:
• The food index was up 0.2% month-over-month and 2.7% year-over-year.
• The energy index was up 0.4% month-over-month and down 2.0% year-over-year.
• The used cars and trucks index rose 0.5% month-over-month and was down 1.3% year-over-year.
• The shelter index was up 0.5% month-over-month and 6.2% year-over-year.
• The all items index less shelter was up 1.9% year-over-year.
The factors contributing to higher-for-longer housing and rental costs are ongoing low supply, resulting from a work stoppage during the pandemic, strict zoning regulations, limiting the density and types of housing that can be built in certain areas, and the cost of construction materials, labor and land, making it more expensive to build new homes and full-featured apartment complexes.
In the first quarter of 2021, the median home price in the U.S. was $369,000, according to the Federal Reserve. Eleven quarter-point rate hikes later, the median home price in December was $382,600 and up 4.4% year-over-year, showing just how tight the market is for new home inventory.
Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.
According to the current CME FedWatch Tool, there is a 46.2% probability of the Fed cutting the Fed Funds rate by a quarter-point to 5.00%-5.25% at the March 20 FOMC meeting and a 50% chance of a second quarter-point cut at the May 1 meeting. These numbers are well off the prior week, where the chance of a March cut was a dominating 76.9% before the release of the CPI report. Bond yields immediately backed up across the yield curve and stock prices gave ground against this new reality check.
Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.
Another component of the CPI that is seeing higher ongoing costs is insurance, in all its forms – property insurance, rental insurance, motor vehicle insurance, health insurance, life insurance, disability insurance and other types of insurance. Per the latest CPI report, the cost of insurance accounted for 3.2% of the CPI weight, meaning for every $100 spent by urban consumers, $3.20 went to insurance payments.
The cost of car insurance alone was up 8.4% in 2023, according to research firm ValuPenguin, citing higher prices for cars, more traffic accidents, more car thefts, more weather-related damage, higher costs of maintenance, repairs, and medical treatment due to accidents.
A third component to inflation that isn’t likely to come down is the cost of professional services. Rising overhead costs related to rent, utilities, transportation, and wages for many professional services companies have all been raised sharply these past two years, when inflation took off. Companies are also investing in more training and technology to deliver better value to customers. Firms are being more selective about the projects they take on with a higher focus on profits and raising prices accordingly. Unless there is a deep recession, there will likely be further cost increases for essential services.
There may be some give back in food and energy prices, as has been the case in the past three weeks. And the cost of clothes, shoes, and the cost of other finished goods like consumer electronics will fluctuate lower during supply gluts, but there is likely to be very sticky pricing for shelter, insurance, professional services, medical care education and skills training for those entering the professional trades sector.
One can argue that going forward, again short of a broad and deep recession, inflation will likely run at an annual clip of 3%-4%, with the Fed probably having to adjust their long-term target to 3% from 2%. And here’s the good news: The stock market seems perfectly fine with this! The yield on the 10-year T-Note has risen from 3.78% to 4.20% in the past month with the Dow, S&P 500 and the NASDAQ at new highs.
Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.
This market’s transition to a place where slow but steady economic growth comes with an acceptable rate of inflation is a new development and might be the new normal for the Fed in 2024. Bullish investors are buying into this narrative and is, in my opinion, why the market is trading better against a bond market that saw some selling pressure this past week. Bond prices got ahead of themselves and are normalizing to reflect a more probable Fed scenario and stocks are taking the least path of resistance – higher.
All content above represents the opinion of Bryan Perry of Navellier & Associates, Inc.
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Bryan Perry
SENIOR DIRECTOR
Bryan Perry is a Senior Director with Navellier Private Client Group, advising and facilitating high net worth investors in the pursuit of their financial goals.
Bryan’s financial services career spanning the past three decades includes over 20 years of wealth management experience with Wall Street firms that include Bear Stearns, Lehman Brothers and Paine Webber, working with both retail and institutional clients. Bryan earned a B.A. in Political Science from Virginia Polytechnic Institute & State University and currently holds a Series 65 license. All content of “Income Mail” represents the opinion of Bryan Perry
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