To Hike or Not to Hike

This year the Fed has been aggressively pursuing its stance on higher interest rate policy. It has indicated that further monetary policy and higher interest rates are “data-dependent” – meaning it will watch incoming economic data to determine future rate hikes. As a result, investors have also been forced to be “data-dependent” to figure out where opportunities occur in equities and fixed income markets. This week we received a few data points: Consumer Price Index (CPI), Producer Price Index (PPI) and retail sales.    

For August, headline CPI came in above expectations at 3.7% y/y, driven by higher energy prices, which rose 10.6% m/m and up 92% on an annualized basis. Other metrics in the index such as rent, motor vehicle insurance, medical and personal care also increased. The core CPI, which excludes the more volatile food and energy segments, rose 4.3% y/y and was also higher than expectations – this was tied to higher wages and rent prices. That said, the core CPI fell from last month’s level of 4.7% y/y growth.   

Chart 1: One Month % Change in CPI, Seasonally Adjusted, Aug. 2022 – Aug. 2023¹  

The PPI, which is a measure of the change in the price of goods at the producer level, rose 1.6% y/y and was hotter than expectations. Clearly, both the CPI and PPI show persistent inflation and remains problematic for the Federal Reserve. The core PCE (the Federal Reserve’s preferred inflation metric) was 4.2% at the last reading. While it’s targeting 2% inflation, the Fed has stated that the economy will need to see below trend growth going forward to combat the elevated levels of inflation.    

While higher, we don’t believe these reports have given the Fed reason to raise rates next week, as the 3-month annualized pace for core CPI has moved from 3.1% to 2.4%. So, some progress has been made and we believe the Fed will take a “wait and see” approach next week at the FOMC meeting. November is not off the table, however, which is why we will continue to watch the incoming data for inflation progress.    

Chart 2: Fed Funds Rate vs. Core CPI and Headline CPI² 

Once Again, We Welcome Labor Unions to the Stage 

As the inflation battle is still widespread, we heard from several airline companies that have had to lower guidance. American Airlines (AA) cut Q3 guidance due to higher jet fuel prices, which have eaten into profitability per flight and are eroding margins. Other company and industry hurdles have been the new collective bargaining agreements with the Allied Pilots Association, which will increase wages and benefits for their pilots. Another interesting data point on wages came from Amazon (AMZN), which plans to increase wages for contract delivery drivers as part of its $440 million investment into its third-party delivery service program.  

Labor unions have been on full display in 2023, as we have seen a few different victories which have resulted in higher wages and better conditions for employees. All eyes are on the auto industry this week, as the United Auto Workers Union (UAW) has voted to strike if a deal is not struck by 11:59 p.m. EST on Thursday, September 14. The union continues to seek double-digit wage increases – while it has backed off from initial demands of 40% raises, it still seeks raises above 30%.  

Sorry, Gas Guzzlers  

If you regularly drive a vehicle, you have likely noticed a rise in gasoline prices over the last month. More than half of Wednesday’s headline CPI reading (+0.6% m/m) was driven by higher gasoline prices (+10.6% m/m). The sharp increase stems from the extended crude production cuts from Saudi Arabia and Russia announced last week in tandem with increased demand from China.³ While oil and gasoline are clearly related, it is important to distinguish the difference between gasoline (the refined product) and crude oil (the raw material). The refined product inherently requires the raw material, and with less supply of crude oil on the market due to the production quota cuts coupled with steady demand, the price of crude oil and, therefore, gasoline have increased.  

Official customs data reported that China’s August crude imports increased 21% m/m and 25% from August 2019 levels.⁴ European benchmark Brent Crude Oil futures briefly edged above $92.50 for the active contract, the highest level since November 2022. Some other notable energy products moving higher are heating oil, which is a common proxy for diesel fuel, +11.5% MTD, and propane, +11.3% MTD. The push higher in energy prices places an increased burden on consumer budgets and corporations alike. However, the higher price of oil benefits energy companies, especially upstream players. 

Chart 3: Six-Month Chart – Brent, Heating Oil and Propane⁵ 

Upstream companies are responsible for exploring where to drill and extracting crude oil from the earth. Now with higher benchmark prices, these upstream companies can sell the same product for more of a profit, resulting in higher margins. These profits will be turbocharged by the ongoing theme of falling drilling costs across the upstream industry. The improving profitability is apparent in stock price action, as 90% of S&P Energy Sector names are above their 200-day moving averages.⁶ 

Consumer Momentum  

Finally, retail sales came in better than expected this week and are now 2.5% higher vs. August 2022. This latest print was led by strength in food services, non-store retailers, health and personal care, and motor vehicles, while the laggards are gasoline stations, furniture and home stores, and building materials stores. Eating out and ecommerce shopping has been consistently strong in the retail sector, growing over double the pace of total retail. Final demand also supports the strength in the consumer and rose 1.6% y/y and accelerated from last month’s reading of .8% y/y growth. We remain impressed with the services side of the economy and the consumer’s continued interest in getting out and about.    

Stephanie Link: CNBC TV Schedule 

Sources

1. US Bureau of Labor Statistics. As of September 13, 2023.
2. FactSet. As of September 14, 2023.
3.  Reuters. As of September 5, 2023.
4. Nikkei. As of September 13, 2023.
5. Bloomberg. As of September 14, 2023.
6. Strategas. As of September 11, 2023.

Disclosures

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