The January Consumer Price Index (CPI) report came in hotter than expected Thursday morning sending the yield on 10 year treasuries above 2% for the first time since 2019. As a result, futures markets are now pricing in a more than 50% chance that the Fed hikes by 50 basis points in March, according to The Wall Street Journal’s Nick Timiraos.
After a big selloff at the open, markets have rallied back and appear to be taking the report in stride. Unfortunately, this is unlikely to last as inflation and higher rates provide multiple headwinds to stocks. As we’ve already seen this earnings season with Starbucks (SBUX), Clorox (CLX) and Chipotle (CMG), inflation squeezes companies margins, hurting their profitability. Higher interest rates increase the discount rate at which future earnings are valued, decreasing their present value. This is especially problematic for the richly valued tech stocks that dominate the US market. Higher rates also squeeze consumer, business and government budgets by increasing their debt service cost. This is no small matter given the massive indebtedness of the US economy.
Regardless of what happens today, nasty inflation means the longer term trend is now down.