Though the market initially reacted positively to Powell’s statement that the next move would most likely be a cut rather than a hike, the gains were swiftly reversed by the end of yesterday’s trading session.
The data will determine what’s next. So far, it appears that the path from today’s roughly 3% inflation to the Fed’s 2% target is proving to be more stubborn than last year’s data telegraphed. Tuesday’s slightly hotter than expected Employment Cost Index and this mornings Unit Labor Cost figures won’t help matters. Now, everyone knows that the Fed has abandoned thoughts of any more than a couple rate cuts this year, and even those cuts won’t be realized until the data becomes more definitive.
Meanwhile, a slew of company earnings reports has shed some light on the health of the US consumer. And, it’s not great. McDonalds, Starbucks, and Lululemon each reported a slowdown in spending growth from their customers. Inflation, declines in bank balances, and a weakening labor market might finally be curbing consumer demand. But this doesn’t mean all types of spending are weak. Apple reports its quarterly results after today’s close.
Demand for semiconductors and infrastructure related products/services are booming. In the past week we heard about the planned capital equipment spending plans from four of the Mega Cap technology companies including Amazon, Meta, Google, and Microsoft. They will spend approximately $200 billion in capex in 2024. This is roughly 50% more than was spent in 2023. At the same time, cash distributions from the Infrastructure Bill and Jobs Act are finally starting to ramp up with launched construction projects, particularly in the form of new semiconductor factories. This makes it hard to predict aggregate demand when part of the economy is softening and other parts are booming.
Nonetheless, the lagged effects of the Fed’s policies are clearly impacting interest rate sensitive sectors, such as housing. Business spending in general also appears to be slowing. As evidence, consulting firms such as Accenture and CDW report that they are seeing delays in project spending. These reports were confirmed by Tuesday’s weaker than expected Chicago Purchasing Managers Index.
What remains unclear is whether the labor market can continue to stay strong. The unemployment rate is a low 3.8%, but Chairman Powell correctly notes that recent labor data such as job openings, quits, as well as business surveys have been trending weaker. Importantly, Powell stated that a continuation of weakening labor market trends would likely forge a path to its desired cuts.
So, we are left to wait for more data. A “soft landing” remains in the cards, but only time will tell. The Fed is determined to get inflation down to its 2% target, but the march higher in 10-year US Treasury yields, currently hovering around 4.7%, suggests investors are increasingly weary of inflation becoming more persistent. Running record deficits makes the Fed’s job more difficult. In fact, earlier this week the Treasury announced the need to borrow $41 billion more than its estimate in January. One can only imagine how big the government’s budget deficit would be if the economy weren’t as good.
The back and forth of stronger and weaker than expected economic and company reports is likely to make this summer a period of volatility but no clear direction. Let’s just enjoy watching the time-honored Kentucky Derby this weekend. Amidst the uncertainty of this race, at least we know where the finishing line is and we can be confident that there will be a clear winner announced.
Dwayne “The Rock” Johnson turns 52 today, soccer great David Beckham turns 49, and Princess Charlotte of Wales will be 9 years old today.
Christopher Gildea
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