Looking at economic and market indicators these days might be depressing.
The yield curve is inverted. That historically means a recession could be on the way. The "Buffett indicator" shows that stocks are way overvalued, hinting at a potential downturn. Even the "cardboard box" indicator is flashing a serious warning for the economy.
But for investors looking for a ray of sunshine, one just broke through the clouds. The Bureau of Economic Analysis (BEA) released some important data on Friday, June 30, 2023. And there was some good news.
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A great headline number
Every month, BEA releases personal consumption expenditure (PCE) data for the previous month. PCE reflects the total amount that U.S. consumers spend on goods and services.
There are two numbers in the BEA's PCE data that are especially important:
- PCE price index. Sometimes referred to as the "headline" number, this is an inflation measure that captures a wide range of consumer expenses.
- PCE price index excluding food and energy. This index is often referred to as the core PCE price index. As its name indicates, it excludes food and energy prices, which can be volatile.
In May 2023, the headline PCE price index increased 0.1% from the previous month and 3.8% year over year. This reflected a solid improvement from April when the index rose 0.4% sequentially and 4.3% year over year. Most impressively, the headline number was the lowest it's been since April 2021.
What about the core PCE price index? It increased by 0.3% in May from the previous month and by 4.6% year over year. These changes were 0.1% lower than the April numbers and in line with the BEA's March numbers.
What it could mean for stocks
It must be a positive sign that the headline PCE price index hasn't looked this good in over two years, right? Yes, but the Fed watches the core PCE price index much more closely than it does the headline number. The BEA's May data contains both good news and bad news for investors.
The good news is that inflation appears to be moderating. This makes it less likely that the Fed will feel the need to continue aggressively raising interest rates as it did last year. Those rate hikes caused the stock market to tank.
The bad news is that the core PCE price index still isn't close to the 2% level that the Fed wants. As a result, there's a good chance that more rate hikes will be on the way.
Federal Reserve Chairman Jerome Powell stated in his appearance before the House Financial Services Committee recently that progress has been made in fighting inflation. But he added that additional interest rate hikes "at a more moderate pace" could be required.
Had the core PCE price index declined significantly in May, stocks would have probably soared as investors anticipated that the Fed wouldn't increase interest rates further. On the other hand, if the index had jumped, stocks would've likely fallen on fears of further big rate hikes. The actual result probably translates to basically a status quo.
Investors' best strategy
What should investors do in this scenario? Probably the best strategy is to follow Warren Buffett's advice.
The legendary investor stated earlier this year that he and his longtime business partner Charlie Munger "firmly believe that near-term economic and market forecasts are worse than useless." Buffett knows, though, that buying the stocks of well-run companies with solid long-term prospects at fair prices pays off over the long run.
