Weekly Update 05/16/2025: Headline Inflation Moderates as Tariffs Loom Large
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International Trade
Last weekend, negotiations between the U.S. and China ended with a positive tone. The U.S. will temporarily cut tariffs on Chinese goods to 30% (from 145%) while China will reduce tariffs on American goods to 10% (from 125%). This agreement, which was hammered out at the Geneva residence of the Swiss ambassador to the U.S., will be in force for 90 days (from May 12 to August 10) as the two countries continue to talk and work towards a “long-lasting and durable trade deal” in the words of U.S. Treasury Secretary Scott Bessent.
With so much riding on the negotiations, how good a deal is it? Digging into the numbers, the U.S. tariffs on many Chinese products will be higher than 30% because duties on steel, aluminum and autos remain in place. Nevertheless, it delays what would have been a holiday shopping season marked with empty shelves if Chinese products were not delivered in time. Roughly 80% of all toys are made in China meaning it could have been a very blue Christmas for many youngsters come December. For China, millions of jobs tied to serving U.S. consumers would have been in jeopardy if a deal did not come together. According to economists at Macquarie Group, Chinese shipment of goods to the U.S. dropped 21% from a year earlier. Meanwhile, trade with a bloc of Southeast Asian nations jumped 21% in that time period, suggesting some manufacturers have rerouted goods to countries where “Liberation Day” tariffs have been paused or are minimal. The bottom line is that trade levies above 100% are essentially a bilateral trade embargo and anything even north of 40% is seen as extremely damaging by trade experts.
While it was good to make progress, markets are going to eventually want to see permanence and so will businesses. A tariff pause with China ending in August, after the tariff pause with the rest of the world ending in July, except for the U.K. which has its own deal with the U.S., and all of that excludes goods compliant with the U.S./Mexico/Canada agreement (USMCA) except universal tariffs imposed on steel, aluminum and automotive imports. By the time readers receive this newsletter, this all could have changed! Businesses need certainty because they enter contracts to deliver goods and services in the future. If employers do not know what the cost of goods will be, and there is no way to hedge those expenses, it leads to paralysis in hiring and investing and a decline in confidence. Markets are reacting not to specific details in these various agreements, but to the fact that there is progress made in defining the outlines of a deal, whenever that may happen. Uncertainty has been so paramount since early April that any news towards talks is seen as a victory of sorts. While it is not the playbook businesses and countries have used for decades, investors are getting accustomed to the process simply because there is no other choice right now. Markets can discount good news and bad news, but uncertainty is undefined and therefore a reason to sell and sit on the sidelines which is what we saw in the first half of last month. Hopefully, as deals get pushed across the finish line, and details come into focus, investors can return to looking at the operating fundamentals which is the correct way to value ownership for the long-term.
Housing
Housing starts increased modestly last month. According to the Census Bureau, starts rose 1.6% in April to an annualized rate of 1.36 million after plunging 10.1% the previous month. The consensus forecast in a survey of economists had starts rebounding by 3.0%. Multifamily starts (e.g., apartment buildings) rose 10.7% last month while single-family home starts decreased 2.1% to the slowest pace since July thanks primarily to declines in the West region (down 18.7%). High inventories are hampering single-family home sales even as homebuilders try to incentivize with deals. Supply of new homes is at a 17-year peak leading to a pullback in building on “spec homes,” which contractors start without having a dedicated buyer. Building permits, a sign of future activity, fell 4.7% in April following March’s 1.9% gain with single-family permits falling by 5.1%. High mortgage rates and falling consumer confidence are conspiring to put a damper on the spring selling season so far. We will get data on new and existing home sales for April next week which should give us a more complete picture of the housing market during what is arguably the most important time of the year as families move before school starts in the fall.
Inflation
Both consumer and producer prices were released this week. Consumer prices rose less than forecast in April according to data from the Bureau of Labor Statistics (BLS). Month-over-month, the headline figure rose 0.2% which was softer than the +0.3% expected. On an annual basis, that translated into a 2.3% gain compared to the 2.4% consensus increase. Excluding the more volatile food and energy sectors, the core reading was ahead 0.2% and 2.8% on a monthly and annual basis, respectively. Shelter prices, which are the largest category within services, rose 0.3% in April compared to March thanks primarily to rising rents. Hinting at potential economic weakness to come, airfares and hotels were two categories that showed a decline. Used cars, trucks and apparel were other categories that fell. Two categories likely impacted by tariff talk—furniture and appliances—saw prices jump. While the 90-day reprieve on reciprocal tariffs and the extended talks with China may provide short-term relief, the Bloomberg Economics group reasoned that it could have a nuanced effect on future prices writing this week: “A catchup period for restocking retailers’ inventories may lead to port congestion, and if the items on U.S. store shelves are simple scarce—rather than entirely out of stock—then price increases could be recorded faster in the [future] CPI.” Companies such as Nintendo and Procter & Gamble have suggested that they will try to pass on the cost of tariffs to consumers.
Producer prices declined in April by the most in five years, suggesting companies, so far, are absorbing at least some of the hit from higher tariffs. The BLS reported that wholesale prices fell 0.5% last month versus the expectation of a +0.2% rise and versus a revised flat level in March. On a year-over-year basis, that increase was 2.4%, slightly below the 2.5% consensus. Excluding food and energy, producer prices rose 3.1% in April, which was in-line with consensus but down from the revised 4.0% annual pace in March. Retail sales data released today from the Commerce Department showed that sales, excluding auto and gas figures, rose a modest 0.2% in April, which was slightly below consensus. The latest Federal Reserve Bank of Atlanta business inflation expectations survey showed that fewer than one in five firms said they would be able to fully pass on a 10% increase in costs. With consumers feeling jittery about the economy leading to slumping consumer sentiment, the data is implying businesses are soaking up the extra costs to not scare away demand. Here is a good summary of how businesses are feeling right now: “Weakened consumer confidence and persistent inflation across the store may pressure volumes in the short-term... When we pull all of this together — tariffs, consumer confidence and overall demand — we have tempered our outlook over the remainder of the year.” –Mark LaVigne, CEO of Energizer Holdings Inc., said on the battery-maker’s May 6 earnings call.
Will these readings affect the Federal Reserve? Chances for a 25 basis point (0.25%) cut in the benchmark federal funds rate sit at 8% for next month’s meeting and 33% for July’s confab. So, the latest CPI and PPI has not changed the needle much since their last meeting last week. Meanwhile, U.S. 10-year Treasury notes yields have crept higher the past few weeks towards the highs of the year of 4.79%. Rates for this security have significantly bounced from the 3.99% level seen in early April. Investors will have to decide if they want to risk more equity volatility or switch to the (relative) safety of U.S. bonds. With the ‘debt ceiling’ approaching by mid-to-late summer, even bonds may feel more than the usual instability. Yet, if there is one theme for 2025, it is unpredictability. That is likely to continue after summer trips are taken. Stay tuned.
Company Events
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