Weekly Market Update: February 19, 2024

The latest Consumer Price Index (CPI) reading showed inflation remains sticky. Specifically, the CPI and core CPI, which excludes the more-volatile food and energy components, rose 0.3% and 0.4%, respectively, in January. On a 12-month basis, the CPI and core CPI increased 3.1% and 3.9%, respectively. All figures came in above consensus forecasts.

The “data-driven” Federal Reserve will probably not be in a rush to pivot on the monetary policy front. That is because consumer prices are still rising, and the economy continues to expand at a solid pace, as reflected in an annualized gross domestic product (GDP) advance of 3.3% during the final quarter of 2023. This, coupled with the strong job gains during the first month of this year (nonfarm payrolls rose by an estimated 353,000 positions in January and the unemployment rate held steady at 3.7%), has kept the possibility of a recession at bay.

The fourth-quarter results from Corporate America suggest that the economy is on solid footing. Indeed, with two-thirds of the S&P 500 companies having reported results as of press time, the vast majority have exceeded consensus revenue and earnings forecasts, with profit growth averaging around 3%. If that figure holds, it would mark the second straight quarter of higher earnings.

So what could cause the Federal Reserve to reverse course on the interest-rate front earlier than we expect? We think that the central bank would need to see signs of mounting stress in the banking system or in interest rate-sensitive sectors (e.g., commercial and residential real estate) to quickly pivot and begin cutting rates before midyear. It is worth noting that Treasury market yields spiked following the CPI report, which may put further upward pressure on lending rates.

Conclusion: The stock market, which was surging on fourth-quarter earnings, sold off on the hot January inflation data. In an environment where the Fed may have to keep interest rates high for longer than Wall Street was anticipating, we recommend that investors keep a good portion of their portfolios in cash holdings, while looking at the stocks of the high-quality companies with strong cash flows. Those entities are best positioned to run their operations and reinvest in the business in a higher-rate setting.

Source: ValueLine.com