Stocks posted solid gains across the board on Wednesday after the July Consumer Price Index (CPI) report showed inflation over the past 12 months to be a little less than expected. Equities continued that rally early Thursday after the July Producer Price Index came in nicely under the consensus. However, by the end of the day stocks largely surrendered their gains and markets ended mixed.
While it is nice to see the market stage a significant rebound over the last six to eight weeks after a dismal six months to open the year, let's not get ahead of ourselves. Sure, July CPI came down a bit from June's levels, igniting much happy talk about "peak inflation," but prices still have increased 8.5% over the past year. And that if you believe government statistics are accurate in capturing the true state of inflation, most of the relief from higher prices has come from the fall in commodities such as gasoline.
On the other hand, the shelter index, the biggest component in the CPI, rose 6.1%. Considering that rents have increased by 15% on average according to last reading on Zillow over the past year, this component is likely to be sticky in the months ahead.
Wages increased 5.2% on a yearly basis according to the recent Bureau of Labor Statistics July Jobs Report, which means the average consumer "only" lost 3.3% of their buying power over the past 12 months. While that is a bit lower than the loss of more than 4% we have seen in recent months, it hardly merits a victory lap at this point. In addition, second-quarter productivity fell by 4.6% while labor costs rose 10.8% in the quarter. The former is the worst reading for productivity since the series was established in 1947.
As Doug Kass rightly noted Thursday in his Daily Dairy.
- Input costs are outpacing the ability for corporations to pass on higher costs to the consumer.
- This, combined with other factors, will lead to an earnings recession.
- Consensus corporate profit expectations are too elevated.
Kass said he also believes the Fed pivot is likely off in the distance, as do I. The economy is in a recession already or soon will be. The Atlanta Fed's GDPNow currently has 1.4% GDP growth projected for the third quarter, which is likely to come down in the weeks ahead as it has the past two quarters. Even if the projection turns out to accurate, it still means the economy would have contracted for the first nine months of this year. Combined with profit forecasts being too high for the quarters ahead, a consumer under considerable duress and a central bank that will continue to ratchet up interest rates, color me very skeptical that this recent rally won't be hitting the pause button by the end of summer. I see some profit taking on the horizon and am trading accordingly.