Wentz Weekly: Inflation Slows Further Despite Tariffs

Wentz Weekly Insights
Inflation Slows Further Despite Tariffs

It was the third week of the past four that stocks ended higher as optimism on trade continued after the US/China trade truce. The S&P 500 gained 5.27%, inching its way closer to 6,000, moving positive year-to-date on Tuesday, and only 3% from the February record highs! Even more, the Nasdaq outperformed with a 7.15% gain and is just 5% from its all-time highs from December.

Last week’s rally was triggered by a Sunday headline that said the US and China agreed to a trade truce. What was most surprising is that the agreement was more aggressive than anyone had expected – China cuts its tariff rate on US imports to 10% (down from 125%) while the US cut tariffs on Chinese imports down to 30% (from 145%) which includes a 10% tariff plus the 20% tariffs relating to fentanyl. Furthermore, it was noted tariffs could fall even more and the initial 34% reciprocal tariff, prior to the retaliatory tariffs, would be the ceiling.

Investors seem to have got pretty complacent with stocks close to record highs although there are no trade agreements confirmed, and uncertainty on the economic impacts remain. As we saw during “Liberation Day” tariffs could quickly change. In addition, it will take time to see how tariffs in place will affect the economy and inflation.

As the world’s largest retailer Walmart said last week, despite reporting solid quarterly results, its CEO Doug McMillion said “we’re positioned to manage the cost pressure from tariffs as well or better than anyone, but even at the reduced levels, the higher tariffs will result in higher prices.” Walmart reaffirmed its guidance for the year but said it is based on the belief trade discussions will result in bilateral agreements, however, a resumption of higher tariffs would jeopardize their ability to grow earnings, it added.

In addition, it said it saw noticeable weakness in discretionary general merchandise, perhaps a consequence of the uncertainty among consumers. Its CFO said he is concerned tariffs are going to lead to higher prices for consumers because the magnitude of higher costs is more than it can absorb. He said you will see higher prices likely toward the end of this month and “certainly much more in June.”

Markets were expecting to see the first impact of tariffs on inflation in last week’s inflation report for April, but it did not show up as expected. The consumer price index increased 0.2% in the month, lower than the 0.3% increase expected. The annual inflation rate was 2.3%, slowing from 2.4% the prior month and down from 3.0% in January. Utility prices have been running hot, up another 0.7% in April and up 15.7% over the past year. Core inflation, which excludes food and energy prices, also increased 0.2%, and up 2.8% over the past year.

The softness in inflation came mostly from service inflation, which has been running much hotter than goods inflation since the pandemic. Goods inflation makes up only about 20% of the index and are more exposed to tariff impacts. Core goods prices increased 0.2% in the month, also lower than expected. We saw a little tariff pressure but it was uneven. As JPMorgan notes, some import-heavy categories like audio equipment and auto parts saw higher prices increases of 8.8% and 2.2% in the month, other categories like apparel showed surprising weakness.

One of the potential reasons goods inflation was not higher in April is the fact businesses built inventories early to get ahead of tariffs. Trade data from two weeks ago showed imports surged 4.4% in the month and up 21.4% over the past year. Categories like home furnishings, durable goods, and household durables saw the largest inventory increases by businesses in the prior two months.

If there are any meaningful price hikes/inflationary pressures to be seen in the economy, it will likely happen in the late spring/summer months rather that April when the tariffs began as inventories get drawn down.

Beside trade, investors have been focused on earnings and Congress’s progress on its “one big” tax bill. Earnings have overall been better than feared, which we will highlight next week after seeing many retailers report this week, while the House is getting closer on passing its budget bill. It released the full text of a package last week, but key disagreements remain among Republicans over spending cuts and the SALT deduction (state and local tax).

House Speaker Johnson made a goal to have something in place by Memorial Day which will be challenging. Elsewhere this week, we will see several housing data releases as well as many Fed speakers on the calendar.

Recent Economic Data

• Consumer Price Index: For the second straight month inflation was a little lower than expected, but after a small decline in March inflation picked back up in April. The consumer price index increased 0.2% in the month, slightly below 0.3% increase expected and after the 0.1% decline in March. The index is up 2.3% from a year ago, slowing from the 2.4% annual rate in March. Food prices declined 0.1%, after running at a nearly 4% annualized rate the last six months, while energy prices rose 0.7% driven by electricity and utilities, offset by a drop in gasoline prices. Utilities have been one of the hottest categories for months now, rising 15.7% over the past year. The price index excluding food and energy rose 0.2% as expected and is up 2.8% from a year ago, also as expected. Vehicle prices continue to be pretty volatile and declined in April, while shelter prices, the largest category in the index, rose 0.3% and is still up 4.0% over the past year. Finally, the index on services prices excluding shelter increased 0.3% and is up 3.3% from a year ago.

   

• Producer Price Index: The producer price index saw a big surprise to the downside with producer prices falling 0.5% in April, well below the 0.2% expected and the largest single monthly decline since early 2020. However, revisions may be having a big impact since March’s 0.4% decline was revised up to 0.0%. Excluding food and energy the index was down 0.4%, again seeing large revisions for March (-0.1% revised up to +0.4%). Excluding food, energy, and trade, the index fell 0.1%. Prices for final demand goods were flat while prices for final demand services fell 0.7% due mostly to a 1.6% drop in trade prices. Over the past year the producer price index is up 2.4%, with the core index up 2.9%.

   

• Retail Sales: April retail sales were a little weaker than expected, perhaps seeing a hit from lower sentiment after tariffs. Retail sales increased 0.1% in the month with only 5 of the 13 major categories seeing an increase in the month. Vehicle sales fell 0.1% and gasoline sales fell 0.5% as gas prices fell through the month. Retail sales excluding vehicles and gasoline rose 0.2%, coming after a strong 1.1% in March. Gains were seen in restaurants and bars (up 1.2%), building materials (up 0.8%) and smaller increases in furniture, electronics and online sales. The largest declines were seen in miscellaneous stores, sporting goods, and apparel. The control group, or core retail sales and is important since it feeds into GDP, was a big disappointment falling 0.2%.

   

• Housing Starts & Permits: The number of housing starts reported in April increased 1.6% from March to a seasonally adjusted annualized rate of 1.361 million homes, but about 2% below the level from a year ago. As reflected in the homebuilder sentiment, new home builds have been weaker since 2022, however at pre-pandemic levels. The number of permits for a new home build fell 4.7% to an annualized 1.412 million and 3.2% below the year ago rate. The number of homes under construction has also fallen significantly lately, down 14% over the past year to 1.382 million annualized.

   

• Housing Market Index: The housing market index, an index of homebuilder sentiment, deteriorated yet again in May, with homebuilder confidence in the market of newly built homes falling to 34, down six points from April, matching the lowest level since December 2023. The present sales index fell 8 points to 37, the expected sales over the next six months index fell 1 point to 42, while the index for traffic of perspective buyers fell 2 points to 23, all the lowest level in nearly 2 years. The survey revealed 34% of builders cut prices in May, up from 29% in April with an average cut of 5%.

   

• Empire State Manufacturing Index: The Empire State Manufacturing index was -9.2 for May, around the same level as March suggesting manufacturing activity continued to fall. The report noted business activity declined modestly in May, but businesses did see an increase in new orders and shipments, with employment and the average workweek declining. One small positive was selling price increases slowed.

   

• Philly Fed Manufacturing Index: The Philly Fed Manufacturing index was -4.0 for May, improving from -26.4 in April but still indicating falling manufacturing activity in the Philly region. The report noted a small increase in new orders but worsening shipments as price increases remain elevated. Looking forward, firms continue to expect growth over the next six months. About one in four firms reported decreases in activity, 19% reported increases, while over half reported no change in activity.

   

• Industrial Production: Industrial production was unchanged in April after a 0.3% decline in March. Manufacturing production fell 0.4, mining fell 0.3%, but utilities were up 3.3%, bouncing back after two big months of declines which is very sensitive to weather. Capacity utilization was 77.7%, slightly below the historical average.

   

• Jobless Claims: The number of jobless claims the week ended May 10 was 229,000, unchanged from the prior week with the four-week average relatively unchanged at 229,000. The number of continuing claims moved slightly higher to 1.881 million with the four-week average unchanged at 1.874 million.

   

• Consumer Sentiment Survey: The consumer sentiment index was expected to improve in the initial (preliminary) May survey, but was opposite at 50.8, falling from 52.2 in April for the second lowest reading on record (after a 50.0 June 2022) since 1952. The current conditions index was 57.6, down from 59.8 in April, while the expectations index was 46.5, down from 47.3 last month and the lowest since 1980. All index numbers disappointed to the downside. The one-year inflation expectation was 7.3%, the highest since 1981, while the longer-term inflation expectation was 4.6%, the highest since 1991. The survey was compiled between April 22 and May 13, for reference the China trade truce was announced May 11.

Company News

• UnitedHealth Group: UnitedHealth announced the resignation of its CEO Andrew Witty due to personal reasons and said it has suspended its 2025 outlook due to ongoing increases in medical care activity and as the medical costs of many Medicare Advantage members remain higher than expected. The company added it expects to return to growth in 2026. Separately, the WSJ reported the company is under investigation by the Justice Department for potential Medicare fraud. The report says the investigation is focused on its Medicare Advantage business and possible kickbacks that lead to higher Medicare payments. Recall it was February the DOJ launched a probe into its Medicare division for businesses practices alleging it added diagnoses to receive extra Medicare payments.

   

• Apple: Bloomberg reported Apple is looking to use artificial intelligence to boost the phones battery life, with a change coming as soon as iOS 19. Apple has collected battery data from devices to make predictions to understand trends to better learn battery needs of certain applications and the change would use AI to help analyze the user’s behavior in effort to conserve energy. Another reason for the new feature is because the iPhone 17 will be a slimmer version and likely have a smaller battery. Separately, Apple is reportedly working on a feature that would allow Vision Pro users to scroll using just their eyes, which is currently being testing as part of visionOS3, according to Bloomberg.

   

• Super Micro Computer: Super Micro shares were higher by over 15% after announcing it signed a multi-year partnership agreement valued at $20 billion with Saudi Arabia data center company DataVolt. The statement said the deal will “fast-track delivery of ultra-dense GPU platforms and rack systems for DataVolt’s hyperscale AI campuses in the Kingdom of Saudi Arabia and the U.S.”

   

• Netflix: Netflix president of advertising said at a presentation its ad-supported subscription plan, which costs $7.99/month, has over 94 million monthly active users globally, representing a 34% increase from 70 million since last November and a 135% increase over the past year. He added members’ attention to ads is just as high as the shows/movies themselves.

   

• Foot Locker: After shares moved near an all-time low, Dick’s Sporting goods said it has agreed to acquire Foot Locker company for $2.4 billion, or $24/share, an 87% increase over where shares were prior to the announcement. The Wall Street Journal said Dick’s may be looking to take advantage of investor anxiety over Foot Locker due to concerns over the impact of tariffs and weakening consumer spending trends.

   

• Starbucks: Bloomberg News reported Starbucks is assessing its operations in China, its second largest market, and has contacted private equity firms, tech companies, and others as it considers options, including a possible sale, of those operations. The report said Starbucks sent letters to potential investors to solicit views on the China business and how to grow it. Starbucks operates 7,750 stores in China generating about $740 million in net revenue.

   

• Meta: Meta shares fell about 5% after a WSJ report was released that said the company is delaying the release of its new large language model “Behemoth” due to performance concerns as engineers continue to work on improving its capabilities. It was initially supposedly to be released in April so it could coincide with the company’s LlamaCon developers Conference, then was delayed to June, now scheduled for fall or later. There were never any official release dates, these were just dates held internally by the company.

   

• CVS: After Rite Aid filed for Chapter 11 bankruptcy, CVS has submitted bids to buy some of its pharmacy stores in the upper Northwest like Washington, Oregon, and Idaho, where its per capita market presence is smaller than the rest of the U.S. It also wants to buy its prescription information and a number of retail locations.

Other News:

• House Budget Bill: The House Ways and Means Committee released a text of its budget bill which would cost $5 trillion, over the $4.5 trillion allowed for in the budget. The bill includes making the 2017 Trump tax cuts permanent, raising the debt ceiling by $4 trillion, removing taxes on tips and on overtime, eliminates the EV tax credit, reduces spending by $1.5 trillion, increases the SALT deduction to $30k from $10k, and a tax break for interest on auto loans, among other items, and spending cuts on areas like Medicaid and climate programs. Also, the bill does not include the “millionaire tax” that would introduce a new tax bracket of 39.6% to those earning over $2.5 million. The bill still needs a House vote and is separate from the Senate version where it is working on its own bill. There are many disagreements among Republicans, mostly when it comes to Medicaid cuts and the limit on the SALT deduction.

   

• Monetary Policy Framework Adjustments: In a speech in D.C. on the Fed’s framework review, Fed Chairman Powell said the Fed will reassess a range of monetary policy aspects in its framework, which it does every five years. He said communication will be a focus this time including around forecasts, uncertainty, and risks. He implied it will be looking at changing the “average inflation targeting” where it allows inflation to go over 2% because the idea of an overshoot of inflation “proved irrelevant to our policy” recently. He also said longer-term interest rates are a good deal higher right now, driven by real rates and longer-term inflation expectations and that is leading to a higher longer-term neutral rate.

   

• Pharmaceuticals Executive Order: Trump signed an executive order on “most favored nation” drug pricing policy with the goal of aligning drug prices in the U.S. with prices paid by other countries. There are no immediate changes – the Health Secretary will open negotiations with pharmaceutical companies then if significant progress is not made, RFK will propose a new rule. President Trump claims this would cut pharma prices for U.S. drugs by 30%-80%.

   

• Trade:

  • Canada, with its newly elected Prime Minister, has suspended nearly all its retaliatory tariffs on US imports, making Canada’s tariffs basically zero. His campaign was ran on strengthening its economy domestically and seeking new trade deals while opposing the dollar-for-dollar retaliation that PM Trudeau supported.

  • The Wall Street Journal reported that trade deals with Japan and South Korea are said to be “close” however timing is unclear. A deal with India is reportedly close too, but the tensions and recent events with Pakistan seem to have that on hold.

  • Japan is reportedly holding out for a better trade deal rather than face political backlash domestically, according to the Financial Times. The report said Japan is wanting to eliminate the 25% tariff on U.S. imports of its cars, steel, and aluminum over pressure from Japan’s local businesses, and could potentially offer to buy more U.S. agricultural goods and greater market access for American cars.

  • China said it suspended the ban on exports of rare earth minerals to 28 U.S. companies as part of the trade truce reached with the U.S. last week.

  • China: After the U.S. and China reached a framework trade truce, Bessnet said in the next few weeks the two will get together again to “get rolling on a more permanent agreement.” Also, Trump said China has agreed to remove all non-tariff barriers it put on the U.S. since the trade war (such as export restrictions, and restriction on rare-earth minerals).

  • Trump said his administration would set tariff rates for the US trading partners over the “next two to three weeks” as Treasury and Commerce Secretaries Bessent and Lutnick will be sending letters telling countries what they’ll be paying to do business in the U.S. He also said there are 150 countries are asking for negotiations but the administration lacks the capacity to carry on all those talks.

     

• Trump’s Middle East Visit: President Trump announced plans to lift all sanctions on Syria at the request of Saudi Arabia Prince Muhammad bin Salman to give the new Syrian government, which pushed out the Assad regime earlier this year, a “fresh slate.” Also, Saudi leaders said they would invest $600 billion in a series of deals with the U.S., including a $142 billion defense sales deal.