Fed's preferred inflation gauge cools to lowest level since September — calming rattled markets

The Personal Consumption Expenditures (PCE) index, the Federal Reserve's preferred inflation gauge, rose 2.1% in April, down from 2.3% in March and the lowest since September, while core PCE prices rose 2.5%, below March's 2.7% and a four-year low, calming markets despite rising US-China trade tensions. While the data indicates a continued decline from post-pandemic inflation spikes, economists caution that prices may rise in the second half of the year as companies pass along tariff costs, despite a recent court ruling against many of Trump's tariffs, which the administration intends to appeal or circumvent. Consumer spending slowed to 0.2% in April, potentially reflecting caution due to higher goods prices and anticipation of tariff impacts, while incomes rose 0.8%, largely due to increased Social Security benefits.

Analysis

The Federal Reserve's preferred inflation gauge, the Personal Consumption Expenditures (PCE) index, indicated a moderation in price pressures for April, with the headline figure rising 2.1% year-over-year, down from 2.3% in March and marking its slowest pace since September. Core PCE, which excludes volatile food and energy, rose 2.5% annually, a decrease from March's 2.7% and the lowest in over four years. On a monthly basis, both headline and core prices saw a modest 0.1% increase. This cooling inflation data provided some relief to markets, which were otherwise unsettled by escalating US-China trade tensions and a slight downturn in major indices like the Dow Jones, S&P 500, and Nasdaq. Despite the encouraging inflation figures, significant uncertainty persists due to trade policy. While a court ruling struck down many of President Trump's tariffs, the administration intends to appeal or find alternative legal avenues, leaving the future tariff landscape unclear. Economists and corporate executives, including those from Walmart (WMT) and Best Buy (BBY), anticipate that implemented tariffs will likely lead to higher consumer prices in the latter half of the year as companies seek to protect profit margins. This concern is amplified by a 0.5% monthly rise in big-ticket manufactured goods costs, potentially reflecting early tariff effects. Consumer spending showed signs of slowing, increasing only 0.2% in April after a 0.7% rise in March, possibly due to consumer caution regarding higher goods prices and anticipated tariff impacts. Personal incomes rose by a healthy 0.8% in April, partly attributed to adjustments in Social Security benefits. Federal Reserve officials maintain that inflation remains above their 2% target and are expected to keep interest rates steady while assessing the economic impact of tariffs.

Key Decisions for Investors

• Investors should closely monitor upcoming inflation data and Federal Reserve communications, as the current disinflationary trend could be challenged by the pass-through effects of tariffs later in the year.
• Consider exercising caution with consumer discretionary sector investments, particularly retailers like WMT and BBY, given the observed slowdown in consumer spending and explicit corporate warnings about price increases stemming from tariffs.
• Given the significant uncertainty surrounding the final implementation and duration of US trade tariffs, maintaining portfolio diversification is crucial to mitigate potential market volatility and sector-specific impacts.
• Anticipate continued hawkishness from the Federal Reserve, as core inflation persists above the 2% target and potential tariff-induced price hikes may delay considerations for interest rate cuts despite the recent moderation in PCE figures.