Dow falls 250 points after hot January PPI print, Fed’s Mester remarks

What’s driving markets

Equity indexes slid sharply on Thursday morning as traders assessed the latest batch of mixed data on the U.S. economy and hawkish comments from Cleveland Federal Reserve Bank President Loretta Mester.

See: U.S. wholesale inflation surges in early 2023, PPI shows

After the January consumer-price index showed only slow progress in bringing inflation down, inflation at the wholesale level also rebounded in January. U.S. wholesale prices jumped 0.7% to start the new year, the biggest gain since last summer, offering further proof that inflation is sticky and unlikely to decline rapidly.

A separate measure of wholesale prices that strips out volatile food and energy costs climbed a sharp 0.6% last month, the largest increase in 10 months.

“Today’s wholesale inflation data, when coupled with the CPI report, suggests that the easy battles against price pressures have been won. We believe the move from 9% to 6% [inflation level] will prove to be much less challenging than the journey from 6% to 3%,” wrote John Lynch, chief investment officer at Comerica Wealth Management, in emailed comments.

However, Lynch said the stickier-than-expected inflation means the Federal Reserve is likely to remain steadfast in its fight against inflation, with tighter policy, and for longer, than equity markets have been pricing in since October.

The stronger-than-expected wholesale inflation reading dented U.S. stock indexes and sent yields on the 10-year Treasury note
TMUBMUSD10Y,
3.844%
higher. The ICE U.S. Dollar index, a measure of the currency against a basket of six major rivals, rose 0.2% to 104.11 on Thursday.

See: Fed’s Mester said she saw a ‘compelling’ case for half-point hike at January meeting

Cleveland Fed President Loretta Mester said in a speech following the release of the wholesale inflation report Thursday that she would have liked the central bank to have been more aggressive at their last interest-rate committee meeting in January, and she had seen a “compelling” case for a half-point rate hike at that meeting, when policy makers lifted the fed-funds rate by a quarter of a percentage point. 

“Indeed, at our meeting two weeks ago, setting aside what financial market participants expected us to do, I saw a compelling economic case for a 50-basis-point increase, which would have brought the top of the target range to 5 percent,” Mester said.

Mester did not have a vote at the Jan. 31- Feb.1 policy meeting. The committee voted unanimously to raise its benchmark interest rate by 25 basis point to a range of 4.5 to 4.75%.

In recent sessions traders have absorbed data showing U.S. inflation being stubbornly sticky and strong retail sales. These follow a surprisingly strong jobs report at the start of the month.

“Considering these pricing developments with pressure on profit margins and interest rates, investors should prepare for a retest of the October lows,” Lynch said.

Consequently, benchmark U.S. Treasury yields
TMUBMUSD10Y,
3.844%
are near their highest for 2023, yet the S&P 500 index sits just shy of its best level since August, having bounced 7% for the year to date.

See: Stocks face ‘meaningful’ downside risk amid ‘complacent’ markets: JPMorgan

An indication of how relaxed investors have become about the current market scenario can be seen in the level of the CBOE VIX index
VIX,
+4.17%,
a measure of expected S&P 500 volatility and tends to jump when traders get anxious. The index hovered near 18 ahead of the wholesale inflation data, but advanced to 21.9 on Thursday morning.

Part of the reason for the declining VIX is that the S&P 500 has been meandering in a relatively tight range for the last 10 sessions, noted Mark Newton, head of technical strategy at Fundstrat.

“U.S. equity markets are holding up far better than might be expected with Treasury yields pressing higher. This will be something to continue to watch carefully,” he said in a note to clients.

“There remains a realistic threat of minor weakness into late February, and this would be officially underway on SPX break of 4060 (though even weakness under 4095 would warn of this possibly getting underway). Conversely, 4160 and also 4176 are the two areas to monitor on the upside,” Newton added.

In other economic data, construction on new U.S. homes fell a seasonally adjusted 4.5% in January to 1.31 million, the Commerce Department said Thursday. The drop in construction on homes follows the decline in December, when housing starts also fell by 3.4%.

The number of Americans who applied for unemployment benefits in stayed below 200,000 for the fifth week in a row, signaling the U.S. labor market is still quite strong. New applications slipped from to 194,000 from a revised 195,000 in the prior week, the government said Thursday.

Companies in focus

• Cisco Systems
  CSCO,
  +5.00%
  stock rose 6.2% on Thursday after the networking equipment manufacturer beat expectations for revenue growth in the holiday quarter, and executives predicted stronger growth in a revised annual forecast that sent shares more than 3% higher in after-hours trading Wednesday.

• Roku
  ROKU,
  +17.74%
  gained 13.3% after the digital media player manufacturer reported consumers streamed more content than expected through Roku Inc.’s platform in the fourth quarter, helping to drive a sizable revenue beat despite macroeconomic pressures.

• Paramount Global
  PARA,
  -3.04%
  fell 2.9% after the media giant fell a bit shy of revenue expectations for its latest quarter while also recording a loss. 

• Shopify
  SHOP,
  -15.48%
  fell 15.4% after the online retailer produced a better holiday quarter than expected according to a Wednesday earnings report, but a forecast for slowing revenue growth hit the stock in after-hours trading.