Coming in Hot

February 15, 2024

This week, the Consumer Price Index (CPI) for January 2024 was released. The popular inflation report came in ahead of expectations, showing an increase in inflation during the month.

CPI rose 0.39% in January, 0.09% more than expected. On a year-over-year basis, the index was up 3.1% (lower than December’s 3.4% but higher than 2.9% expected). Core CPI, which excluded more volatile items like food and energy, rose 0.4% on the month and 3.9% on the year – matching December’s pace

Markets did not react well to the news as interest rates spiked on fears that these higher than anticipated inflation metrics may further delay the Federal Reserve’s timeline for interest rate cuts. Markets have since recovered much of those losses.

Here are three things I took away from this week’s inflation report

1.) It was never going to be a straight line – inflation is a difficult challenge and one that is not fully transparent and easy to understand. It will never – and was never – going to move down in a straight line. Yes, this month showed an increase but if you zoom out just a bit (and adjust for a few outliers – see below) the trendline is still pretty clear. It’s going down

2.) Overreaction – This is my opinion (and only my opinion) but the market reaction to this print seemed overdone (that has been borne out somewhat by the recovery in markets since Tuesday’s swan dive). I feel this way largely due to the four main drivers of higher CPI and the details within each of them. Let’s take a closer look:

(a) Owner equivalent rents – has been very sticky and contributed 0.26% of the month’s 0.39% total. This has remained sticky but should start to come down. Interestingly enough, there was a 2.5% difference between Owners Equivalent Rent and Rent of Primary Residence in the month, which suggests some noise in the numbers. The former (OER) is what home owners would expect to pay if they had to rent vs. latter, which is actual rental prices. Historically, these two are virtually equal so the difference is a bit confounding and may lead to some revision in future months.

(b) auto insurance – this is surging area (mine was up 40% yoy) but this too won’t last forever. Largely a catch-up across industry for higher cost of repairs and more claims. It will peak – and likely soon

(c)cost of financial services – largely due to market increases. As market goes up, this component goes up

(d) Hospital services – this one is harder to pinpoint so worth keeping an eye on.

Three of these (b-d) are of concern and worth watching for consumers of these items but not really a focus area for the Fed. Shelter remains a focus area for them so we need to see this level off and we anticipate that it will

3.) Keep a Balance Between Macro and Micro – Inflation is of course very important to today’s market and is clearly capable of moving markets and interest rates to a material extent. Inflation and rates (ie: macro factors) matter in investing – there is no way around that. However, don’t lose sight of the micro forces at play too. For example, look at the strength in corporate earnings (81% beat this quarter), the increases in dividends and share buybacks, the continued level of innovation and productivity, and countless other factors at the company-specific level. As an investor, you always have the chance to align your capital with the best companies in the world – regardless of last month’s inflation print. Do your homework and take advantage of market weakness when it presents itself to buy great business on sale.

Onward we go,

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