Wentz Weekly: Stalling Disinflation Progress Should Table Rate Cuts Through Summer

Wentz Weekly Insights
Stalling Disinflation Progress Should Table Rate Cuts Through Summer

It was a risk-on week as stocks rallied again with the S&P 500, Dow, and NASDAQ all hitting new all-time highs. In fact, the “meme stock” trade came roaring back with stocks like GameStop and AMC up as much as 300% at one point, although gave back a majority of those gains by the end of the week. This could be a sign that investors’ risk appetite in the market appears to be increasing and retail investors are back to trading in higher volumes. On the flip side, it was not a good week for short sellers – CNBC reported that short sellers (those that bet on a stock price to decline) in GameStop stock had lost over $1 billion on Monday alone due to the stocks 74% rally. The S&P 500 gained 1.54% making it a fourth consecutive week of gains while the NASDAQ outperformed with a 2.11% gain as tech was the big winner for the week.

Treasuries gained as well after yields pulled back slightly – the 2-year Treasury note’s yield fell 3 basis points to 4.84% while the 10-year yield fell 7 bps to 4.43%. The 2-year yield has remained higher than the 10-year yield (an inverted yield curve) now for 469 consecutive trading days, the longest ever.

Outside of the flashback of 2020 and 2021 with the momentum in meme stocks and short squeezes, the big highlight of the week was more macro related with the big flow of economic data. There was data on several areas of the economy with updates related to inflation, consumer spending, manufacturing, and the housing market. But overall, investors continue to see bad news as good news when it comes to data on the consumer, and celebrate inflation reading that are not over estimates.

First, retail sales for April, which measure more spending on goods than services, disappointed with sales unchanged in the month. Expectations were for strength to continue with a 0.4% gain in the month. Adjusting for the 0.3% increase in inflation, retail sales fell 0.3% in the month. Only 6 of the 13 major categories saw an increase in sales, which was led by gasoline sales, electronics, and grocery stores. Declines were seen in categories like vehicles, online retailers, and hobby/sporting goods stores.

Over the past year sales at retailers are up 3.0% but adjusting for inflation (up 3.4% over the past year), retail sales are declining. It is clear that over the past year or so, the increase in retail sales are now being driven by higher prices.

The slowing economic data is giving market participants hope that the chances of a ‘soft landing’ are higher, versus a ‘hard landing’ (recession). The latest inflation report confirmed this view.

The consumer price index rose 0.3% in April and rose 3.4% over the past 12 months, both numbers were what economists and strategists had expected. Core prices, which exclude volatile food and energy categories, rose 0.3% in the month and have increased 3.6% over the past 12 months, both also coming in as expected. There was no big surprises in this inflation data and that’s what investors liked to see. This helped propel stocks to new highs and took pressure off Treasury yields.

Energy contributed to the upside on inflation in April with gasoline prices rising over 1%, while a decline in prices in several categories including other commodities, and new and used vehicles. However, we would note inflation remains high in categories related more to services, and due to this fact, we believe the possibility of rate cuts will continue to be pushed to latter portion of the year.

For example, shelter prices (by far the largest weighting in the index) rose 0.4% in the month and still up over 5% over the past 12 months. Medical services rose 0.4% in the month, transportation services up another 0.9%, professional services up 1.1%, and event tickets up 1.0%. Most importantly, the index of services excluding shelter rose 0.2% in the month and 4.9% over the past 12 months, but are still rising at a 6.4% annualized pace over the past three months.

Given the data over the past several months – inflation that appears stickier than was thought, a labor market that remains tight, and economic growth that remains strong – the Fed should still have no reason to cut interest rates anytime soon.

Recent Economic Data

• Consumer Price Index: Consumer inflation rose 0.3% in April, according to the consumer price index, in line with the 0.3% increase expected. The index rose 3.4% from a year ago, also as expected, and slowing from the 3.5% annual rate in March. Food prices were unchanged in the month (food at home fell 0.2% while food away from home rose 0.3%), while energy prices jumped 1.1% due mostly to higher gas prices. Excluding these two volatile categories, the index increased 0.3% in the month and has increased 3.6% over the past year, both as expected. Looking deeper, goods inflation continues to moderate – basket of commodity prices fell 0.1%, used vehicles fell 1.4% and new vehicles fell 0.4%. However, the categories that have seen high inflation (and what appears to be sticky inflation) has remained on the services side including transportation (up another 0.9% in the month, despite airline fares down 0.8%, and up 11.2% from a year ago), medical, and shelter. One of the indexes that closely follows services inflation (the index of services excluding shelter) increased 0.2%, a considerable slowdown from 0.8% in March, but still up 4.9% over the past year and up 6.4% over the past three months annualized. Inflation may have “met expectations” for April, but is still a problem and will keep the Fed on the sidelines in terms of rate cuts through summer.
• Producer Price Index: Producer prices increased 0.5% in April, according to the producer price index released Tuesday morning, this was ahead of the 0.3% increase expected. The index is now 2.2% higher from a year ago, higher than the 2.1% rate from March. Excluding food and energy prices, the core index increased 0.5% as well, also above the 0.2% increase expected. This index is 2.4% higher from a year ago, matching March’s rate. The index for final demand goods rose 0.4% while final demand services rose a hotter 0.6%. This was not a good sign for inflation progress, however, many brushed off the higher number because March’s index was revised to a 0.1% decline, a big revision compared to the initial report that showed the index increased 0.2% (for both the headline index as well as the core index).
• NY Fed Survey of Consumer Expectations: The New York Fed’s survey of Consumer Expectations showed similar sentiment as the consumer sentiment survey that was released two weeks ago. It showed inflation expectations over the next year jumped to 3.3% to the highest this year, up from 3.0% last month, while longer term inflation expectations rose to 2.8%, up from 2.6%. In addition, consumer’s expectations on home price gains are moving higher, now expecting home prices to rise 3.3% over the next year, up from 3.0% last month, for the highest since mid-2022.
• Retail Sales: Retail sales, a great indicator of consumer spending on goods, was unchanged in April versus the expectations of a 0.4% increase. Vehicle and gas sales tend to be volatile and skew the headline number, so we look at sales excluding these two categories which was no better with a 0.1% decline. For April only 6 of the 13 major retail categories saw a sales increase, the largest in gasoline (+3.1%), electronics (+1.5%), and grocery stores (+0.8%), with the largest declines in online retailers (-1.2%), sporting goods/hobby stores (-0.9%), and vehicles (-0.8%). Compared to a year ago retail sales are up 3.0%, but counting for inflation of 3.4%, real retail sales are actually down 0.4%. Is this report a sign of pressure in consumers or just a month of slowdown? Prior months were strong so we will have to see the next several months before confirming this as a trend.
• Jobless Claims: The number of unemployment claims for the week ended May 11 was 222,000, a decline of 10k from the prior week. There was worry that last week’s roughly 25k increase was another sign of labor market weakness, but almost all the increase came from a one-time factor from California. The four-week average rose 2.5k to 217,750. The number of continuing claims was 1.794 million, an increase of 13k from the prior week with the four-week average at 1.779 million.
• Industrial Production: Industrial production was unchanged in April versus the expectations of a 0.1% increase. The change was due to a 0.3% decline in manufacturing, a 0.6% decline in mining, both of which were offset by a 2.8% increase in utilities, which is very much correlated to weather. Capacity utilization remains in a ‘normal’ range at 78.4%.
• Empire State Manufacturing Survey: The Empire State Manufacturing Index was -15.6 for May, worse than expected and slightly worse than April, continuing to suggest manufacturing activity in the New York region remains in a recession. The report noted new orders saw a significant decline and labor markets remained weak as employment and hours worked continuing to move lower. The pace of input and selling prices moderated slightly.
• Philly Fed Manufacturing Survey: The Philly Fed manufacturing index was 4.5 for May, below expectations and a big drop from 15.5 in April. Similar to the Empire State survey, manufacturing saw a brief improvement toward the end of the first quarter, but has since deteriorated. Survey respondents indicated a decline in new orders, shipments, and employment with price increases that continued, but at a level below the long run average.
• Housing Market Index: The housing market index, an index of home builder sentiment, was a disappointment after declining for the first time in six months, with the index at 45 for the May survey, lower than the 51 expected and dropping from 51 in April. The index on present sales fell 6 points from April to May to 51, the index on sales over the next six months fell 9 points to 51, and the index on traffic of potential buyers fell 4 points to a very depressed level of 30. All of these readings are the lowest since January.

Company News

• Squarespace Going Private: Squarespace, a software as a service platform allowing users to create websites, said it has agreed to go private in a $6.9 billion deal, or $44 per share, in an all-cash transaction by private equity firm Permira. The purchase price represents a 15% premium over where shares were trading prior to the announcement.
• New streaming bundles: Comcast announced it is preparing to launch a three way bundle to be called StreamSaver that will combine the streaming services of Peacock, Netflix, and Apple TV+ that would be offered at a “deep discount.” There was no price point discussed and Comcast Chief Brian Roberts said the goal is to add value to consumers and “take some of the dollars” out of competitors’ streaming businesses. This comes one week after Disney and Warner Bros. Discovery announced a bundle offering of Disney+, Max, and Hulu which will be available in the summer.
• Apple in AI: According to a report from Bloomberg, citing people familiar with the matter, Apple is close to an agreement with OpenAI (developer of the chatbot ChatGPT) to use its technology on the iPhone as part of a push to bring AI features to its devices. It added Apple has also been in talks with Alphabet about licensing its AI features including its Gemini chatbot.
• Seeking A Sale: VF Corp, owner of brands like North Face, Timberland, Supreme Eastpack, etc, said it is conducting a strategic review of its brands and shopping its Streetwear brand, hiring Goldman Sachs to conduct a portfolio review. It then announced it is looking to sell its Supreme brand, shortly after buying the brand in 2020 for $2.1 billion.
• Netflix Successful Ad-supported Service: Netflix said yesterday in a presentation to advertisers that the number of monthly active users on its advertising supported subscription has surpassed 40 million, adding that the company is planning on launching an in-house advertising platform by the end of 2025. It said Trade Desk and Google will work with it to offer automated ad purchases for buyers. Recall it was previously reported that Netflix was working with Microsoft on its advertising technology. Separately, the company made its first step into live sports by signing a three year deal with the NFL to stream Christmas games.
• Oscar Mayer Brand: The Wall Street Journal reported Kraft Heinz is exploring a sale of its Oscar Mayer business and the report says the sale could generate $3 billion to $5 billion. Kraft had wrote down the value of its Oscar Mayer business back in 2019 and has been dealing with declining demand due to the shift in consumer habits.

Other News

• Powell Comments: Fed Chairman Powell spoke publicly last week and reiterated that the Fed is “being patient and letting restrictive monetary policy do its work,” adding the economy has performed very well lately and labor market remains very strong. On inflation he commented on the “lack of progress” through the first several months this year but expects it to soon continue to move back down, although confidence is not as high as it was which will result in the Fed keeping rates higher than previously thought, and also downplayed the probability of the next move being a rate hike.
• Risks in the Banking System: Fed Vice Chair of Supervision said the Fed is actively monitoring several risks in the banking system, whether it was a warning or just a comment to calm some worries. He said supervisors and banks must stay vigilant for expected and unexpected stresses in the banking sector, including commercial real estate loan delinquency rates, and rising credit card and auto loan delinquency rates. He did add though that the liquidity conditions and overall conditions in the banking sector remain “sound and resilient.”
• New Tariffs Official: As was expected, the Biden Administration announced new tariffs on “strategic sectors” including EVs, batteries, critical minerals, semiconductors, solar cells, and some medical equipment. It also said the existing tariffs on roughly $300 billion of Chinese goods that were imposed by President Trump will remain in place.

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New Settlement Period Beginning May 28

T+1 settlement – Please be aware that beginning May 28, the SEC’s to rule to reduce the time between the trade data and settlement date of a security from two business days (T+2) to one business day (T+1) will go into effect. This means that clients will receive faster proceeds from the sale of a security, and also need to cover a purchase within one day of the trade. The last time the SEC reduced the settlement period was in 2017 when it shortened from T+3 to T+2, and the time before that was in 1993 when the SEC shortened the settlement period from T+5 to T+3.