Over the past two years, runaway inflation has plagued both Wall Street and the U.S. economy. And hot inflation reports have caused many stock market crashes.
It has been a simple yet powerful relationship.
But today, that relationship broke. February’s Consumer Price Index data revealed that inflation ran hotter than expected last month. Yet, stocks rallied anyway.
This is an important departure from a very dominant, multi-year trend. And in fact, we think it marks the end of an era – and the start of a one wherein stocks just keep rising.
In short, we think the market is “over” inflation, and there are two big reasons why.
Inflation: Sticky at 3% Is a Win
First and foremost, inflation has returned to its long-term averages around 3%.
Now, over the past few months, inflation has proven “sticky” at 3%. And this fact has got bears pounding the table today. They’re saying that inflation hasn’t budged in months, so that must mean the inflation fight isn’t over.
It’s true that inflation hasn’t budged in months. It’s been stuck around 3% since summer 2023.
But that doesn’t mean the struggle continues. On the contrary, with inflation stuck at 3%, it means the fight is absolutely over!
Since 1950, the inflation rate in the U.S. economy has averaged 3.5%. And since the early 1980s – excluding the runaway inflation readings of the 1970s – inflation has averaged 2.9%. Broadly speaking then, the long-term average inflation rate is right around 3%.
That’s exactly where we are today. Inflation is stabilizing right at its long-term average level.
Inflation is stabilizing right at its long-term average level. That means that we don’t need to beat it down further. We just need to keep it from going back up. And that’s exactly what is happening.
That’s partly why stocks are rallying despite February’s ostensibly “hot” CPI data. Wall Street realizes that inflation is just stabilizing at its long-term averages. So, whether CPI bumps slightly higher or dips a little lower, it’s clear that the inflation fight is basically over.
An Incoming CPI Slide Toward 2%
The other big thing to note here is that inflation is very likely to slip a little lower over the coming months, progressing toward the Fed’s 2% target. And that’s because of lagging effects inherent to the shelter CPI rate.
Shelter accounts for a huge chunk of the overall CPI inflation rate – about 35%, to be exact. But the government calculates shelter CPI using real paid rents, not asking rents. And because most folks sign 12-month leases, asking rents lead real paid rents by about 12 months. Therefore, shelter CPI tends to lag real-time housing inflation trends – as benchmarked by asking rents – by about a year.
And for about two years now, asking rents have been plunging. But shelter CPI has only been falling for about 12 months. (And, yes, it fell again in February from 6% to 5.7%.)
The historical relationship here suggests that shelter CPI should continue to drop sharply over the next 12 months to catch up with asking rents.
And importantly, shelter CPI is the only thing holding up inflation right now.
In February, food prices rose just 2.2%. Apparel prices were flat. Energy prices dropped 1.9%, and furniture prices fell 2.3%. Excluding housing costs, consumer prices rose just 1.8% in February – below the 20-year average inflation rate.
That means that altogether, the only thing keeping inflation above 2% right now are housing costs. And those are set to roll over in the next 12 months. As they do, inflation should progress toward 2%, putting it comfortably below its long-term average.
Point being: It appears the inflation fight is finally over.
That’s why stocks are rallying today despite February’s hot CPI report.
The Final Word
With stocks continuing to rally in the face of hotter-than-expected inflation data, it’s clear that Wall Street sees the writing on the wall.
The inflation fight is over. It’s time to stop worrying so much about the monthly inflation reports and pay more attention to earnings instead…
And for what it’s worth, earnings have been spectacular. Earnings estimates for 2024, ‘25 and ‘26 are all soaring right now.
Net-net, we think the stock market is entering a new era – one wherein inflation headwinds take a backseat and earnings tailwinds steadily drive the market ever higher.
Of course, that means it’s time to buy stocks, especially the ones with the best earnings trends…
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If you’re hoping to make money in the stock market, it’s imperative that you invest in top-notch AI stocks.
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On the date of publication, Luke Lango did not have (either directly or indirectly) any positions in the securities mentioned in this article.
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