Wall Street jambalaya

Economic Jambalaya

CORE PCE

We will have an eventful upcoming week with the Fed meeting on Wednesday as three months have gone by with little progress on inflation. The Fed’s messaging at the end of last year was wrong (4-6 rate cuts) and it is clear that inflation will take much longer to eradicate without a recession.

On Friday, we got the Fed’s preferred read of inflation (PCE or Personal Consumption Expenditures) with CORE PCE at 2.8% vs expectations of 2.6%. Not a disaster but it is going in the wrong direction for the Fed to reverse course.

Growth (GDP)

GDP

And growth this week took a downturn with the GDP report showing growth of 1.6% which was far below expectations of 2.4%. So, maybe the lagged effects of rate hikes are taking root and the economy will grow less but it is only one data point. Economists will need to see a few weak quarters before declaring growth is a problem.

We also got some consumer data on Friday which looked strong compared to last month as consumer spending was up +0.8% verses forecast of +0.6% and real personal consumption rose +0.5% with expectations of +0.3%. Good to see but in the context of inflation this would bode for prices moving higher as demand for goods and services goes unabated. A sticky CPI is likely to continue.

The Consumer

Auto Payments

There are challenges brewing as concerns over grocery prices, gasoline and a declining discretionary income are also taking root. If we look at the adjacent chart of auto delinquencies, we can see evidence of a growing problem. Are the rise in auto delinquencies evidencing the nascent stages of much higher defaults? Too early to tell but at 7.7% we are at the highest level since 2010.

Energy Demand is Growing

Electrical Demand

For the last two weeks we have seen the first leg of Q1 earnings reports and the theme of a technology upgrade cycle is very clear. This is good for the S&P 500 as many companies will find efficiencies by using enhanced software through artificial intelligence. The challenge is that this will require a great deal more electricity and demand for raw goods (think metals and mining) to satisfy this new energy demand. The chart above shows some projections from the IEA that illustrate this should be a strong trend for many years. This means incremental demand for oil/coal/natural gas in the coming years and that doesn’t help the consumer and could add to higher interest rates over the long-term.

Interest Rates

The 10Yr Treasury bond yield is moving higher and may touch 5% which would strengthen the dollar verses our trading partners. However, it does look to me that we will have lower long bond yields in the coming year at some point so the Fed messaging here will be under scrutiny on Wednesday. This will be more important to watch than stocks as rising bond yields is likely to cause another leg down in the S&P 500.

10Yr Treasury Yields

The S&P 500

The pullback from earlier this month got a solid rebound this week from the 21EMA in the chart below. Is this a relief rally into the Fed meeting next week? Will we see new highs or have a deeper pullback? It could go either way but the decline is still shallow in relation to the rally from last October. So, a re-visit to the January 2020 high at $480 is still on the table and perhaps the saying on Wall Street of “sell in May” will ring true once again.

S&P 500

I’ll be back to you next week on how things go after this significant Fed meeting.

Paul J. McCarthy

Thank you for being a subscriber!

Paul J McCarthy III CFA

President, Kisco Capital

Paul McCarthy

Mr. McCarthy is the President and founder of Kisco Capital.