NEWS AND INSIGHTS | INSIGHTS

CIO Notebook: Hotter Inflation Creates Doubt for Investors

February 12, 2025
Shannon Saccocia, CFA, Chief Investment Officer—Private Wealth

Today’s print coupled with the still strong labor market reinforces the Fed’s recent pause which may now extend into the second half of 2025

U.S. CPI readings for January were hotter than expected, setting the stage for a challenging first half of 2025 for the Federal Reserve as it attempts to bring borrowing costs down against the backdrop of a still strong economy. U.S. headline CPI was up +0.5% month-over-month and up +3.0% year-over-year versus consensus expectations for +0.3% and +2.9%, respectively. Core CPI also accelerated in the month, up +0.4% month-over-month and up +3.3% year-over-year; economists were expecting +0.3% and +3.1%, respectively. Notably, the monthly gain in headline CPI is the biggest since August 2023 while the monthly gain in core CPI is the biggest since March 2024.

Meaningful increases in the cost of shelter, energy and food were the primary contributors to the move higher in headline inflation for the month, with shelter up +0.4%, gasoline up +1.8%, fuel oil up a staggering +6.2% and food up +0.4%. Typically, greater emphasis is on core CPI from a monetary policy perspective, but the continued pressure on lower-income consumers, represented by the increases in these three categories, likely will be watched closely by the White House and Congress.

As for core CPI, shelter remains a meaningful contributor to the measure’s continued stickiness, but is showing modest improvement when compared with the prints over the last two years for both rent and owners’ equivalent rent. More concerning in this month’s print was a reversal in the improvement in what is termed supercore services (up +0.8%) as airline fares, motor vehicle insurance, education, personal care, hospital care and even cable television services were notably higher on the month. With that said, it is worth noting the parallels to the start of 2024, which exhibited a similar spike, perhaps implying some seasonality and potentially creating a false signal for the Fed and rates markets.

This print, coupled with a still-strong labor market delivering higher wage growth, reinforces the Fed’s recent pause and the stance that Fed Chair Jerome Powell laid out in his testimony to Congress yesterday. In his comments, Chair Powell reiterated the Fed’s view that monetary policy is “significantly less restrictive than it had been” and acknowledged that the Fed could remain on hold for longer if necessary should inflation remain at or above current levels. He was also hesitant to “speculate” on the impact of tariffs, but provided a comparison to 2019 when the Fed did cut rates in response to economic pressures.

What is clear from today’s market reaction (equities down and bond yields up) is that economic data continues to affect portfolio positioning. More importantly, it remains top of mind for Washington and for U.S. consumers across the country; one need only refer to the most recent University of Michigan survey of consumers and the spike in inflation expectations for evidence. Any meaningful acceleration in goods prices from here, including what could result from widespread tariffs, will likely only exacerbate any pickup in services inflation and, seasonality aside, there are more forces pushing prices higher in the short term than lower.

Our view remains that the U.S. economy can deliver above-trend growth this year. This implies that the Fed’s pause might indeed extend into the second half of the year. We are not forecasting a rate hike. Despite the potential for a longer pause, we do not believe that this disrupts our views that equity markets are likely to broaden and that fiscal policy will be the focus for bond investors this year. As such, we encourage investors to take advantage of volatility in the markets to reallocate portfolios to align with long-term targets, and position for a period of greater policy certainty.

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