Stray Observations on July PCE

Consumers were strong, but so were prices, so brace for another Fed rate hike. That about sums up headlines’ reaction to July’s US Personal Consumption Expenditures (PCE) report, which gave consumer spending results as well as a look at the Fed’s preferred inflation gauge, the PCE price index. Spending rose 0.6% m/m once adjusted for inflation, the fourth straight rise, but PCE inflation ticked up to 3.3% y/y from June’s 3.0%, causing some grumbles about sticky prices and the Fed’s work not being done.^[i] As always, we don’t think Fed moves are predictable, and we think stocks are looking well past whatever the Fed does in September. All the same, we found some interesting nuggets in the report that can help add context and show investors how reality squares with expectations.

First interesting nugget: Headline and core (which excludes food and energy) PCE prices each rose 0.2% m/m, below their respective long-term averages of 0.27% and 0.26% since 1959.^[ii] Both series also rose 0.2% m/m in June, suggesting to us the uptick in the annual inflation rate stemmed more from the base effect than anything happening now. Further underscoring this, as The Wall Street Journal noted Thursday, headline PCE’s annualized inflation rate is now just 2.1% over the last three months.^[iii] Considering the Fed’s inflation target is now an average 2.0% annual rate over some unspecified period, we have a hard time seeing why July’s results would guarantee a September rate hike. We aren’t trying to predict what the Fed will or won’t do, only to point out that based on an objective look at the data, it seems hard to draw the conclusion that massive tightening is necessary from here.

Our second nugget also speaks to this. Goods prices fell -0.3% m/m, notching their third straight decline and the ninth drop in the last 13 months.^[iv] Goods prices are now in year-over-year deflation at -0.5% in July.^[v] Stripping out skew from energy and auto prices, durable goods prices ex. motor vehicles and parts fell -0.7% m/m, the fifth straight drop.^[vi] This series, too, is down in 9 of 13 months through July, putting it in deflation at -1.4% y/y—a very strong indication COVID-related supply and shipping disruptions are in the rearview.^[vii] Obviously, this means services prices are more stubborn, though a lot of this stems from housing services’ 7.8% year-over-year inflation rate in July, as the PCE price index echoes the Consumer Price Index by including owner’s equivalent rent.^[viii] Most other services prices have slowed substantially as last year’s bulge works its way out of the system.

Crucially, faster services inflation isn’t deterring demand, which brings us to our final observation: Not only did services spending growth accelerate to 0.4% m/m for its eighth straight positive reading, but goods spending followed June’s 0.7% jump with a hot 0.9%.^[ix] Some of the latter stemmed from motor vehicles & parts, as improving supply jump-started auto sales, but spending on durable goods ex. autos surged 1.8% m/m.^[x] Between all the handwringing about credit card debt and the upcoming resumption of student loan payments, tapped-out consumers have been a hot talking point lately. But the data argue pretty strongly against this, showing American households have a big appetite right now. Metaphorically as well as literally, considering spending on food services and accommodations jumped 1.1% m/m.^[xi] You don’t get that sort of travel and leisure spending when people are tightening their belts. It is all quite expansionary.

So while we aren’t predicting Fed moves or arguing any of this is some massively bullish market driver moving forward, we think it shows headline interpretations of today’s report are a mite too dour. Coverage didn’t go full good news is bad news the way headlines did when this bull market was starting last autumn—and nor would we expect it to, as that deep-seated pessimism tends not to linger so long. But there is still a good degree of skepticism. We aren’t seeing anyone argue good times are here to stay. Any cheer is tentative at best. This is just what we would expect to see in a young bull market, and the relative lack of enthusiasm suggests to us stocks still have a long way to run.