Crash or land: CPI inflation comes in hot, raising fear of delayed interest rate cuts

Crash or land: CPI inflation comes in hot, raising fear of delayed cuts

April 10, 2024 11:36 AM

As inflation proves stubborn, all eyes are on the Federal Reserve to see if it sticks to its plan for three interest rate cuts.

Welcome back to "Crash or Land," the column where Financial Planning checks up on the health of the U.S. economy. When a key new data point emerges — whether it's a jobs report, inflation numbers or the latest move by the Fed — we ask wealth management's sharpest minds one question: Does it bring us closer to a recession or to a soft landing?

Today a key measure of inflation was announced, and it sent a ripple of worry through the markets. The year-on-year change in the consumer price index rose to 3.5% in March, up from 3.2% in February.

That may not sound like a lot, especially considering how far this rate has fallen — in June 2022, it was at 9.1%. But it confirms a troubling pattern: Since June 2023, the CPI has been hovering between 3% and 4%. Inflation, in other words, has not been coming down lately, at least by that measure — and that puts the Federal Reserve's plans for three interest cuts in jeopardy.

It should be noted, however, that this is not the Fed's preferred measure of inflation. That would be the core personal consumption expenditures price index, or Core PCE. When the Fed says it wants inflation to come down to 2%, that's the number it's thinking of — but even by that measure, we're not there yet. As of February, the Core PCE was at 2.8%.

And for the past few months, the central bank has repeatedly said it won't start cutting rates until there's overwhelming evidence that inflation is headed in the right direction.

"What do we want to see? We want to see more good data," Fed Chair Jerome Powell said at a press conference in January. "It's not that we're looking for better data. We're looking for a continuation of the good data we've been seeing."

How should investors and their advisors look at the new CPI numbers? Is this just a bump in the road, or a sign that interest rates will stay high for longer than expected? For answers, we turned to some of the top analysts and economists in wealth management. Here's what they said:

No time to cut rates

Joe Davis, chief global economist at Vanguard

"Our theme has been we would make progress on inflation, but it will be sticky. The Federal Reserve is not nearly as restrictive as they think. I have been confused as to why [they feel] the rush to cut. The data coming in on the labor market and today's inflation report show concerns of racing to soon to cut. There are still embers of inflation here and there in the economy."

Running too hot

Sonu Varghese, global macro strategist at Carson Group

"This was a hot inflation number and not what the Fed was looking for. This pushes out the timing of the first rate cut because labor markets and the economy are strong, and now there's less urgency to cut.

"Today's inflation number was mostly driven by higher energy prices, medical care services and motor vehicle insurance. There were encouraging signs under the hood, as shelter continues its disinflation trend, food inflation eases and commodity prices outside energy and food pull back. Also, strong household consumption doesn't seem to be translating into higher prices for things like airfares, hotels, furniture, concert tickets and some personal care services."

A partial eclipse

Lindsay Rosner, head of multisector investing at Goldman Sachs Asset Management

"This number did not eclipse the Fed's confidence. It did, however, cast a shadow on it. When it comes to spread risk, one hotter CPI print does not derail the bigger story, which is the economy is strong, defaults remain benign and the technicals continue to cast sunshine on spreads maintaining this range."

Hopes fade for three cuts

Gargi Chaudhuri, head of iShares investment strategy, Americas

"Today's CPI print portrayed little evidence that the U.S. economy is benignly slowing. In line with last week's higher-than-expected nonfarm payroll data, March CPI was firm across the board with core CPI printing at a hotter-than-expected 0.4% month-on-month. … In our view, today's data decreases the chance of a June rate cut and increases the risk that the Fed may only cut rates twice this year."

Backed into a corner?

Jeffrey Roach, chief economist at LPL Financial

"Inflation is still running hot because consumers still have plenty of capacity to spend, putting upward pressure on prices. The gold market is telling investors that inflation pressures could linger longer than the Federal Reserve would want. Should the Fed get backed into a corner and hold rates steady longer than expected, we should expect some volatility in the currency markets, especially if the [European Central Bank] cuts rates this summer and Japan intervenes with their currency."

There's still hope

Gene Goldman, chief investment officer at

Cetera Financial Group

"This is bad news for investors as yields have jumped and equities have sold off. It should not impact our 12-month base case of an economic soft landing, as the economy continues to prove resilient in the face of fewer rate cuts priced in and inflation showing a bumpy trajectory lately. Case in point: Despite the rise in yields, we have seen leading indicators for housing (building permits) and manufacturing (manufacturing new orders) recently strengthen.

"This third consecutive 0.4% month-over-month rise in core CPI pretty much eliminates any hope of a Fed rate cut in June. However, we still expect the Fed to go from a foe (raising rates) to a friend (cutting rates) in 2024. The fact that inflation is still slowing from extreme levels of last year, that it takes about 12-15 months for a rate hike to be fully felt by the economy, and shelter costs should continue to slow, all suggest rate cuts are still likely this year."

Soft landing still likely

Bret Kenwell, U.S. investment analyst at

eToro

"The March inflation report was not good news for stock market bulls, but it doesn't rule out a soft landing. By most standards, a soft landing can be orchestrated when higher interest rates lower inflation, but doesn't trigger a recession or cause a dramatic spike in unemployment. The labor market and the U.S. economy are holding up fine, and until recently, inflation was declining. This report is one of several recent readings that suggests beating inflation will be tough, but at least for now, it only means we need more time with higher rates.

"The latest inflation report puts the Fed in a bit of a tough spot, as inflation is proving to be more stubborn than expected. At the last FOMC meeting, the Fed appeared hopeful that the year-to-date jump in inflation would only prove to be a bump in the road. So far though, it's proving to be a big bump.

"Stock market bulls entered the year expecting five to six rate cuts starting in March. However, expectations for the number of rate cuts continue to fall, while the timing of the first rate cut continues to be delayed. At its last meeting, the Fed reiterated its expectations for three rate cuts this year, but it will be hard to accomplish that feat with the 'final mile' of the inflation battle still being fought.

"The Fed could cut rates once for its own credibility, but at least for now, we're not in an environment that justifies multiple rate cuts."

Too hot for comfort

Elyse Ausenbaugh, global investment strategist at J.P. Morgan Global Wealth Management

"Both headline and core CPI have come in hot every month of 2024 so far, which forces the issue on how many cuts the Fed will really be able to deliver this year. June is probably off the table at this point.

"Still, we should also stay mindful of other dynamics: year-ahead inflation expectations have trended lower, wage inflation has been decelerating and economic growth still looks durable. The directional market reaction looks rational in the near-term, but this year's improvement in risk sentiment is underpinned by other dynamics with staying power.

"2024's environment is different than last year's. Then, we were all debating whether the Fed would hike again. Now, consensus is still that the next move will be a cut; today's debate is just about the timing. For equities, that shift leaves space for accelerating earnings growth to be the predominant driver of upside returns from here, even if valuations feel some pressure from elevated rates."