U.S. core CPI for the month of February was in line both month-over-month (MoM) at +0.2% and year-over-year (YoY) at +2.5%. Headline CPI was on target as well, up +0.3% MoM and up +2.4% YoY. Of note, core CPI on a YoY basis is falling to levels not seen since 2021 – an accomplishment investors would most likely cheer if it were occurring in a different macro environment.
Driving the print were shelter prices, which rose by +0.2% for the second month in a row. Owners’ equivalent rent was up +0.2% while rents rose by only +0.1%. Food prices were higher than in January, up +0.4%, with the underlying constituents reflecting meaningful month-to-month volatility. Energy prices were up +0.6%, driven by higher fuel oil costs (+1.1%), while gasoline was up +0.8%. Evidence of tariff impacts in household furnishings (+3.9% YoY) and apparel (+2.5% YoY) were offset by used cars (-3.2% YoY ) and motor vehicle insurance (+0.2% YoY). Airfares and medical care continue to come in higher than the headline, up +1.4% MoM and +0.5% MoM, respectively.
In our view, there are two main takeaways from today’s release. First, inflation was trending in the right direction prior to the escalation of the conflict in the Middle East, but the delta versus expectations is likely not enough to offset the sharp increase in energy prices and the potential for more meaningful pass-through impacts. While U.S. consumers are better insulated from higher energy prices given domestic production and supply diversification, the rapid increase in gasoline costs could dampen consumption in the short-term. Should the conflict persist, higher energy costs will likely pass through to other goods as well, potentially disrupting the disinflationary trend.
Second, there is likely to be dispersion between the CPI and PCE in February given the differences in their calculation. With shelter accounting for 32% of the CPI calculation, and only 15% of the PCE calculation, the progress made in shelter prices fails to move the needle in the same manner for PCE, and higher costs for healthcare and other services have a more meaningful effect. As a result, the Fed could be faced with a still lackluster labor market, higher energy costs, and a core PCE reading that is a bit hotter – a tougher backdrop for continued interest rate cuts.
The catalyst for a narrative shift would be a de-escalation in the Middle East, as it would focus the analysis back to the potential for stronger economic growth in the second half of 2026, led in large part by a still engaged U.S. consumer. Should energy prices trend back even to where they were in February, it would likely result in stronger consumer confidence and higher level of comfort in plowing tax refunds back into the economy. With strikes intensifying over the last several days, however, and reports that Iran is laying mines in the Strait of Hormuz to further disrupt supply, it is difficult for investors to look past what we believe will be a relatively short shelf life in terms of market impact of the conflict. We also believe that the Fed will have the latitude to move interest rates lower over the course of the year, which should support both consumer and business activity.
We remain committed to aligning portfolios in accordance with long-term strategic allocations. While adjustments made in the short-term may appear tactical, or even produce discomfort given the increased volatility, it is our view that a disciplined, steady approach is critical to delivering the desired outcome over the course of an economic and market cycle. We remain open to an evolution of our views where appropriate, but, at this juncture, we continue to be constructive on quality equities, and dedicated to a more diversified, global approach; we are also encouraged by the opportunities we see in fixed income markets, particularly as it relates to duration.