February may have marked “peak inflation” as the Federal Reserve prepares to raise interest rates off the zero-bound at its upcoming March FOMC meeting.  The one caveat to that thesis is the recent invasion of Ukraine by Russia, which has sent the price of oil surging past $100 per barrel as we go to press.  Reports out just today have analysts walking back the number of estimated quarter-point interest rate hikes in 2022, which could have meaningful ramification for both stock and bond markets alike.  Although with the FOMC only now concluding its asset purchase program, the Fed has a long way to go before monetary policy could be interpreted as “restrictive”.

Consumer prices rose +0.6% MoM in January, and +7.5% YoY, the highest reading since the early 1980’s.  Producer prices soared +1.0% for the month and are up +9.7% from the period a year ago.  The Fed’s favored measure of inflation, the PCE Core Deflator rose +0.5% in January and is up +5.2% YoY, far ahead of the Fed’s +2.0% target.  As mentioned above, the price of Brent crude has soared +33% YTD, and with the Russia/Ukraine conflict looking like it will last some time, the price of oil is likely to remain elevated.

The latest report on home prices had the S&P CoreLogic CS 20-City Home Price Index rising +1.46% in December, which represents a staggering +18.56% 1-year rise in home prices.  Fueled by ultra-low mortgage rates, a booming economy and a pandemic-induced shift from urban multi-family to more rural single-family housing, a normalization of interest rates can’t come soon enough.  The National Association of Realtors Housing Affordability Index has dropped -18% over the past year and is nearing the lowest level seen over the past decade.

The U.S. labor market remains tight, with unemployment coming in at 4.0% in January and the latest JOLTS survey for December showed nearly 11 million job openings in America.  The spread of the omicron variant no doubt impacted these numbers but the bottom line is the labor force has shrunk during the pandemic and has yet to recover.  There is a fundamental mismatch currently between the demand for and the supply of labor.  With minimum wages surging (Target stores today announced entry level wages of between $15 and $24 per hour) and government benefits waning, time will tell if workers will be forced to re-enter the labor market.  Regardless, higher wage costs will likely be passed on to consumers, while negatively impacting corporate profit margins as well.

The Federal Reserve is currently caught between a rock (way behind the curve on inflation) and a hard place (the Russia/Ukraine war), and it will take courage to follow through.

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