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How Inflation Affects Stocks: Navigating Market Cycles with the PCE Index

Market Forecast/Commentary for June 24, 2024

This Friday, May's PCE (Personal Consumption Expenditures) price index will be released, which is the Federal Reserve's preferred measure of inflation. The April reading showed a 0.3% increase in the headline PCE price index and a 0.2% rise in the core PCE index, which excludes food and energy prices.

Economists predict that the year-over-year rise for the headline index will be 2.6% for the core index, improving over the 2.7% April reading. On a month-over-month basis, economists expect a 0.3% increase in the headline PCE, slightly lower than April's 0.32% rise. These figures are always significant as they influence the Federal Reserve's decisions on interest rates and, if positive, could lift traders' near-term bullish expectations.

Despite what could be some end-of-month turbulence from projected cycles in decline, long-term market cycles still show a bullish outlook. Projections suggest a robust rebound beginning next week, following the projected cycle low expected on July 1st. Based on our cycle forecasts, that should be a minor intermediate dip that turns into a favorable buying opportunity. Remember, we never buy until after that low has been validated by daily bar lows that stay above the 3/5 crossover averages.

The Importance of the PCE Price Index

The PCE price index is a critical measure for understanding inflation trends and their impact on the stock market. Unlike the CPI, which only accounts for out-of-pocket expenditures, the PCE encompasses a broader range of expenditures and adjusts for changes in consumer behavior. This makes it a more comprehensive measure of inflation.

Federal Reserve's Preferred Measure

The Federal Reserve closely monitors the PCE price index to guide its monetary policy. A higher-than-expected PCE reading can lead to an increase in interest rates to curb inflation, which can have various effects on the stock market:

  • Interest Rates and Stock Valuations: Higher interest rates typically result in lower stock valuations as the cost of borrowing increases, affecting corporate profits and investor sentiment.

  • Sector-Specific Impacts: Sectors like technology and consumer discretionary are more sensitive to interest rate hikes, while financials and commodities might benefit.

How Inflation Affects Stocks

Understanding the Relationship Inflation affects stocks in several ways. When inflation rises, the purchasing power of money decreases, leading to higher costs for consumers and businesses. This can reduce consumer spending, leading to lower revenues for companies. Additionally, rising inflation often prompts the Federal Reserve to increase interest rates to control price levels, which can impact borrowing costs for businesses and consumers alike.

Key Effects on the Stock Market

  • Reduced Consumer Spending: Higher inflation means consumers have less disposable income to spend on goods and services, which can negatively impact companies' earnings and stock prices.

  • Increased Costs for Businesses: Companies face higher input costs due to inflation, which can squeeze profit margins if they are unable to pass these costs on to consumers.

  • Higher Interest Rates: To combat inflation, the Federal Reserve may raise interest rates, increasing the cost of borrowing. This can reduce business investments and consumer spending, further affecting stock prices.

  • Sectoral Impact: Inflation can benefit certain sectors, such as commodities and real estate, which can pass on higher costs to consumers. Conversely, it can hurt sectors that are sensitive to borrowing costs, such as technology and consumer discretionary.

Long-Term vs. Short-Term Effects Inflation can have both short-term and long-term effects on the stock market. In the short term, unexpected inflation can lead to market volatility as investors adjust their expectations. In the long term, sustained high inflation can erode corporate profits and reduce stock market returns.

Managing Inflation Risks in Your Portfolio

Given the complexities of inflation's impact on the stock market, it's crucial to have strategies in place to manage these risks. Here are some effective approaches:

  1. Monitor Key Indicators Keeping an eye on inflation indicators like the PCE price index and understanding their implications on Federal Reserve policies is essential.

  2. Protect Long Positions Ensure stops below the 2/3, 3/5, and 4/7 crossover averages are in place to protect long positions during times of increased volatility.

  3. Leverage Buying Opportunities Projections suggest a minor intermediate dip turning into a buying opportunity around July 1st. Validate the cycle low before making any purchases.

  4. Diversify Investments Diversification can help mitigate the impact of inflation on your portfolio. Consider including assets that typically perform well during inflationary periods, such as commodities, real estate, and inflation-protected securities.

  5. Focus on Quality Investing in high-quality companies with strong pricing power and robust balance sheets can help navigate inflationary pressures. These companies are better positioned to pass on higher costs to consumers without significantly affecting demand.


Inflation has a profound impact on the stock market, influencing everything from Federal Reserve policies to sector-specific performances. By staying informed about key inflation indicators like the PCE price index and understanding market cycles, traders can navigate these complexities more effectively.

For further reading on how inflation affects stocks or market indicators and their applications in trading, explore our detailed guide on stock market trading strategies. This comprehensive resource provides valuable insights into using technical indicators to enhance your trading strategies.

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