Corporate America’s effort to boost margins and sustain US stock gains faces a key hurdle: a widening gap between consumer and producer prices, compounded by tariff uncertainties.
Prices paid to US producers surged in July by the most in three years, adding to signs that inflation may remain higher for longer. The report indicates companies are adjusting the price of goods and services to help offset costs associated with higher US tariffs, despite softening demand in the first half of the year. Separate data on Tuesday showed consumer prices accelerated in July, though the cost of tariff-exposed goods didn’t rise as much as feared.
The S&P 500 Index and Nasdaq 100 Index both slumped as much as 0.4% Thursday before recovering.
If this trend continues, it could threaten corporate profit margins by both limiting pricing power for consumer-facing companies, and by forcing the Federal Reserve to keep interest rates higher for longer, according to Bloomberg Intelligence equity strategist Gillian Wolff.
Currently, the spread between CPI and PPI is negative, with producer costs rising faster than the prices that companies charge consumers. That means July’s negative reading of 0.6% isn’t helpful for the S&P 500’s margin outlook, she explained.
“This tells us that companies, at least for now, are having trouble pushing increased costs onto the consumer,” Wolff said. “That was the case in 2022, and the stock market didn’t start to recover until the CPI growth pace started to pick up faster than PPI.”
In the decade leading up to the coronavirus pandemic, forward 12-month operating margins for companies in the S&P 500 typically expanded alongside consumer prices. But a closer look shows the moves were more positively correlated with the spread between consumer- and producer-price gauges than to the CPI alone, according to Bloomberg Intelligence.
The S&P 500’s average monthly margin growth in the past three decades stands at 1.4%, per BI. In the years after the CPI-PPI spread fell below zero, margins for the index grew by only 1.1% on average, compared with 4.2% when it was above that threshold. On average, one year after the CPI-PPI spread slid below zero, returns for the index were half as strong as when the spread was at least flat, BI data show.
Forecasts for S&P 500 margin expansion have improved in recent years following the pressures companies faced after the highest inflation in a generation in 2022. Though those improvements have stalled recently as companies struggle to pass costs on to consumers due to tariff uncertainties, Wolff said.
“A narrowing gap between CPI and PPI does signal narrowing profit margins, which makes efficiency gains from AI critical for stocks to hold these margins,” said Jeff Buchbinder, chief equity strategist at LPL Financial. “Higher yields and narrowing profit margins are a recipe for P/E multiple compression.”
Written by: Jess Menton @Bloomberg
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