The core personal consumption expenditures price index for January was released this morning, an economic indicator widely referred to as the Federal Reserve’s “preferred” measure of underlying inflation.
But what about wealth managers? Is the core PCE their “preferred” inflation indicator as well? Or do they prefer to watch something else – maybe the CPI or the price of eggs – when deciding how much inflation protection to add to a portfolio?
The core PCE rose 0.3 percent from December, according to the Bureau of Economic Analysis, which was in line with Wall Street estimates. The core PCE provides a measure of the prices paid by Americans for domestic purchases of goods and services, excluding the prices of food and energy.
It increased 2.6 percent from a year ago, matching the smallest annual increase since early 2021. Nevertheless, the rise was still above the Federal Reserve’s comfort level, which will likely keep their anticipated rate cuts on hold until later this year.
Will Sterling, CIO and partner at TritonPoint Wealth, considers it a best practice to watch the data that the Fed acknowledges is an input in their decision making. Still, he says he spends a great deal of time looking at the component constituents of the core PCE, their relative contributions, as well as looking through adjustments that may be needed. For example, services is 71.5 percent of the core PCE, while Imputed Rental of Owner Occupied Nonfarm Housing is just shy of 14 percent.
“There may be issues with imputed prices and sometimes adjusting those to spot markets is additive,” Sterling said. “We might also note, from some of the recent commentary, Fed officials are also beginning to employ this logic. Additionally, Fed references to ‘supercore’ have been a bit more common, which excludes energy and housing, and something we watch closely.”
With regard to his single “preferred” asset of choice for fighting inflation, Sterling said that fiscal policy decisions have now brought austerity conversations into the mix. However, the economy is still in growth mode, he said.
“The question on our minds is whether we’ll see sustained real growth or simply nominal growth. In both real growth and nominal growth environments, private infrastructure assets have historically performed well and have been a diversifier relative to other public asset classes,” Sterling said.
Elsewhere, Craig Robson, founding principal and managing director at Regent Peak Wealth Advisors, said that the monthly CPI index minus the owner’s equivalent rent (OER) component provides “a directional snapshot of inflation trends.”
The CPI has "multiple components including housing, food, transportation, health care, apparel, recreation, education, and communication and other goods and services. The OER, which is bucketed within Housing, makes up between 25 to 30 percent of the total CPI and is calculated by estimating how much homeowners would pay to rent their own homes in the current market – not exactly the best metric from this advisor’s perspective,” Robson said.
The easiest asset class to access in combating historical inflation is public equities, he said.
“Since 1945, if you kept $1,000 in cash, your purchasing power would be reduced by over 90 percent through August 2023. Compare that to $1,000 invested in the US stock market in 1945 with dividends re-invested,” Robson said. “It would be worth about $3.5 million over that same time period, which is a number that has beaten inflation as measured by the Consumer Price Index, by almost 26,000 percent.”
Moving on, Matt Cavanaugh, managing partner and director of investments at XXI Wealth, said it is important to monitor the traditional PCE and CPI price indexes the government publishes, as well other signals the market offers.
“We look to the bond market, as well as the stock price performance and data of various leading industries such as retail, trucking, shipping, and homebuilders,” Cavanaugh said.
The best way to combat inflation is to buy high-quality companies and businesses, often in sectors such as energy, consumer staples, and health care, he said. He’s also a fan of owning US farmland as a hedge against higher prices.
“This asset class has attracted significant attention from highly successful investors, despite being relatively challenging for average investors to access,” Cavanaugh said.
Adam Paffenroth, owner of Cornerstone Private Wealth Planning at Stifel Independent Advisors, said he indeed pays close attention to the core PCE “since it's the Fed's preferred gauge,” but he also tracks the CPI to get a broader view of inflation and the longer-term trends. On top of that, he said he likes to hear from clients about their own experiences with inflation because it adds a "personal perspective" on how inflation is hitting home.
“When it comes to fighting inflation, I tend to favor private credit strategies, which are less influenced by inflation or changes in Fed rates, and high-quality equities that generate solid free cash flow,” Paffenroth said.
Finally, Philip Noble, founding partner of Noble Wealth Partners, a partner firm of Sanctuary Wealth, said his inflation index of choice is the CPI, as it tracks the price changes of a broad basket of goods and service, focusing on real world purchasing power.
“It is useful for understanding cost-of-living impact on clients, especially those that are retired,” Noble said. “However, rather than relying on one metric, we monitor a blend of CPI, PPI, TIPS breakevens, and wage growth. This, we think, provides a balanced view for investment decision making.”
When it comes to his favorite inflation-fighting assets, he sees TIPS as the most direct and risk-adjusted vehicles for conservative clients. And for growth-oriented clients, he stocks portfolios with a mix of real assets and inflation-friendly equities.
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