Under Pressure: Three Inflation Drivers to Watch
Housing, labor, and energy keep inflation elevated
Queen and David Bowie probably weren’t singing about inflation, but they could have been. Since inflation peaked at 9.1% in June 2022, much of the progress has been encouraging. Yet beneath the headline numbers, persistent pressure from housing, labor, and energy continues to influence inflation- and investor expectations.
One of the stranger features of this bull market is how few investors seem willing to enjoy it.
The S&P 500 has spent much of the past year reaching new highs, yet investor sentiment has remained anxious and cautious, with the VIX, often called Wall Street’s fear index, hovering around 19. That is hardly the kind of euphoria that typically marks a major market top. Bull markets often climb a wall of worry, and this one appears to have brought a ladder.
Unlike the dot-com boom or the housing bubble, today’s market has not been defined by widespread optimism or the belief that nothing can go wrong. Headlines remain dominated by sticky inflation, elevated interest rates, geopolitical conflict, high oil prices, fiscal deficits, and the enormous capital being invested in artificial intelligence.
Those concerns are real and may create headwinds for stocks and bonds over the coming year. But concern and crisis are not the same thing.
Markets appear to be pricing in a world where inflation remains somewhat elevated, mortgage and interest rates stay higher than investors became accustomed to over the past decade, and volatility returns from time to time. None of those conditions necessarily ends a secular bull market. They simply suggest that future returns may depend more on corporate earnings than on expanding valuation multiples.
Back to the 80’s
Pushing down on me, Pressing down on you, No man ask for – Queen
Last week we compared today’s market with the 1980s- a decade of higher inflation, double-digit interest rates, geopolitical conflict, and the 1987 stock market crash. The 10-year Treasury yielded roughly 10.5%, while 30-year mortgage rates averaged nearly 13%. The decade included geopolitical turmoil in the Middle East, oil shocks, and ultimately the 1987 stock market crash.
Yet despite those headwinds, the S&P 500 returned approximately 18% annually, including dividends. History reminds us that bull markets don’t require perfect conditions. They are driven by corporate earnings, innovation, and productivity- not the absence of uncertainty.
Earnings and Inflation
You can’t predict. You can prepare. -Howard Marks
We continue to believe corporate earnings remain the primary long-term driver of stock prices. If S&P 500 earnings grow roughly 15% to 18% in 2026, equities can continue advancing even if inflation and interest rates remain stickier than many expected. Higher financing costs may affect everything from credit cards, mortgages and commercial lending to bond yields and stock valuations, requiring investors to think beyond a traditional static 60/40 portfolio.
The market has already begun rewarding that approach. Leadership has broadened beyond just a handful of mega-cap tech companies. While parts of the AI trade- including several software companies and segments of the Magnificent Seven have experienced meaningful corrections and are in the red since last September (almost one year), capital has rotated into materials, energy, industrials, infrastructure, utilities, financials and other beneficiaries of long-term investment trends. We believe successful investing over the next several years may depend less on owning yesterday’s winners and more on identifying tomorrow’s opportunities with a globally diversified broadening theme.
Our thesis remains straightforward: the secular bull market is intact, but it is unlikely to move in a straight line. Inflation’s hidden machinery, particularly housing and energy, may create headwinds, periodic pullbacks, and renewed bouts of fear. Yet if strong corporate earnings help the S&P 500 to generate returns in the 7% to 11% range this year, we’ll take that. But we still would not be surprised to first see a 10-15% market correction before a meaningful recovery by year end.
Eight Ingredients of CPI
It’s the terror of knowing what this world is about – Queen
Headline inflation remained 3.5% above its year-ago level, far above the Fed’s 2% objective. (source: BLS) Energy prices rose 15.7% over the past year, including a 26.7% increase in gasoline prices. (source: BLS) With Crude recently touching a $100 per barrel high, all eyes are back on gas prices and inflation with the 10-year hovering near 4.7% and 30 year mortgage rates nearly 6.7%. (source: Federal Reserve Economic Data)
The Bureau of Labor Statistics organizes the CPI into eight major expenditure groups: Food and beverages, housing, apparel, transportation, medical care, recreation, education and communication, and other goods and services. (see chart below) These groups tell us where consumers experience price changes. They do not necessarily tell us why prices rise. That distinction matters.
The big three inflation drivers: Housing costs, energy prices and labor markets have historically been among the three most important drivers of sustained inflation. Understanding those three drivers helps explain why inflation may remain more persistent than many expected without necessarily ending the secular bull market.
Food, tariffs, supply disruptions, fiscal policy and inflation expectations can also play significant roles. But housing, labor and energy offer a useful framework for understanding today’s environment.
Housing carries the largest weight in the CPI at nearly 45%, (see chart) which helps explain why persistent shelter inflation (including rent) can keep the overall inflation rate elevated. Transportation and food also represent substantial portions of household spending, while the remaining categories have smaller individual effects on the headline index.
The labor market no longer appears to pose the same inflation threat it did during the post-pandemic reopening. Hiring has cooled, wage growth has moderated and employers have become more selective. That reduces the risk of a broad wage-price spiral. Labor costs still matter, especially in service industries, but labor may no longer represent the largest immediate inflation risk.
Energy’s Wildcard: From Crude Oil to the Gas Pump
Turned away from it all like a blind man. Sat on a fence, but it don’t work – Queen
Energy prices can change within days in response to military conflict, sanctions, shipping disruptions, refinery outages, inventories, and shifts in global demand.
The June CPI report showed both sides of that volatility. Gasoline prices declined during the month, helping cool headline inflation, but remained 26.7% higher than a year earlier. (source: U.S. Bureau of Labor Statistics)
According to The Conference Board, the softer report reduced the urgency for a July rate increase and continued to expect the Federal Reserve to remain on hold during 2026. Markets, however, were still pricing in approximately one rate increase by year-end. (source: CME FedWatch) Renewed hostilities in the Middle East could complicate that outlook by pushing both headline and underlying inflation higher.
But crude oil represents only part of what consumers ultimately pay at the pump.
Why the Crack Spread Matters for Gasoline
The crack spread measures the difference between the wholesale value of refined fuels, such as gasoline and diesel, and the crude oil used to produce them. It serves as a rough measure of refinery profitability and the availability of refined fuel.
A widening crack spread means gasoline and diesel prices are rising faster than crude oil prices. (see chart below) This can occur when refinery outages, maintenance, seasonal fuel requirements, low inventories, strong driving demand, or disruptions to global petroleum trade reduce the amount of refined fuel available for wholesale sale.
The path from crude oil to the consumer looks like this:
Crude Oil → Refinery → Wholesale Gasoline → Distributor → Gas Station → Consumer
Think of crude oil as flour and gasoline as bread. There may be plenty of flour, but if bakeries cannot produce enough bread to meet demand, bread prices rise. Similarly, limited refining capacity can push wholesale gasoline prices higher even when crude oil prices remain relatively stable. Those higher wholesale costs eventually work their way to the gas pump.
The crack spread does not determine retail gasoline prices by itself. Pump prices also reflect crude oil costs, taxes, transportation, distribution, and retailer margins. But it helps explain why gasoline prices can rise faster than oil.
The U.S. Energy Information Administration expects gasoline crack spreads to increase by approximately 10 cents per gallon on average during the third quarter of 2026, partly because disruptions to global petroleum flows have increased demand for U.S. refined products. (source: U.S. Energy Information Administration)
The bottom line: Crude oil and gasoline prices usually move together. However, gasoline must first be refined from crude oil. When refinery capacity becomes constrained, wholesale gasoline prices can rise faster than crude oil prices, widening the gasoline crack spread and eventually pushing retail gasoline prices higher.
Bull Markets Aren’t Linear
The investor’s chief problem, and even his worst enemy, is likely to be himself. Ben Graham
At its June meeting, the Federal Reserve maintained the federal funds target range at 3.50%–3.75%. While inflation has moderated from its peak, policymakers continue to emphasize that inflation remains above their long-term target and have avoided committing to a predetermined path for interest rates.
Market expectations continue to evolve with each inflation report, employment release, and Federal Reserve communication. Investors can track these changing expectations using the CME FedWatch Tool, which estimates the probability of future rate changes based on federal funds futures pricing. The CME is now indicating there could be potential rate hikes later this year.
Although monetary policy will likely remain a source of short-term market volatility, our longer-term outlook remains constructive. History has shown that expanding corporate earnings, innovation, and economic growth have been far more important drivers of long-term equity returns than the precise timing of the Federal Reserve’s next rate move.
We believe the secular bull market remains supported by corporate earnings, innovation, artificial intelligence investment, infrastructure spending and potential productivity gains. Economic growth does not need to be spectacular for equities to advance over time.
But a secular bull market does not guarantee a home run every year.
Persistent inflation, higher financing costs, geopolitical conflict, fiscal deficits and elevated valuations could limit returns and produce meaningful volatility. The market may need to advance through earnings growth and broader participation rather than continued valuation expansion among a narrow group of companies.
Investors should expect progress, but not perfection. The S&P 500 has historically experienced an average intra-year decline of approximately 14%, even though most calendar years finished with positive returns. As history rhymes and often repeats, this year may not be any different.
What investors Should Take Away
Inflation is not one problem. It consists of several forces moving at different speeds.
Housing moves slowly. Labor adjusts gradually. Energy can change overnight.
Refining conditions can magnify an oil shock before it reaches consumers. Persistent inflation can keep financing costs elevated, complicate the housing market and limit the Federal Reserve’s flexibility. None of this automatically ends the economic expansion or the secular bull market. It does argue against complacency.
We remain constructive, but we do not expect a straight line. A meaningful correction before year end would not come as a surprise. Diversification, income, valuation discipline and exposure to durable capital-investment themes may prove increasingly important as markets navigate a less predictable inflation and interest-rate environment.
Bottom line: While inflation has fallen substantially from its 2022 peak, the easy progress is likely behind us. The final stretch back to the Federal Reserve’s 2% target may prove slower as structural forces including housing shortages, persistent labor costs, and geopolitical risks to energy markets – continue to influence prices.
For investors, the lesson is clear: don’t focus solely on the latest CPI report. Understanding the primary three inflation Drivers may be even more important than the headline number itself. Housing remains the largest component of the CPI, labor costs continue to influence service-sector inflation, and energy prices can change rapidly due to geopolitical events and refinery constraints. Each tells a different story, but together they help shape the outlook for inflation, interest rates, and financial markets.
While inflation may remain somewhat higher than many expected over the next several years, history suggests that diversified portfolios built around quality companies, growing earnings, and long-term discipline have consistently rewarded patient investors. Rather than trying to predict every monthly inflation report or Federal Reserve decision, we believe investors should remain focused on the long-term fundamentals that have historically driven wealth creation.
For more information on our firm or to request a complementary investment and retirement check-up with Jon W. Ulin, CFP®, please call us at (561) 210-7887 or email jon.ulin@ulinwealth.com.
Note: Diversification does not ensure a profit or guarantee against loss. You cannot invest directly in an index.
Information provided on tax and estate planning is not intended to be a substitute for specific individualized tax or legal advice. We suggest that you discuss your specific situation with a qualified tax or legal advisor.
You cannot invest directly in an index. Past performance is no guarantee of future returns. Diversification does not ensure a profit or guarantee against loss. All examples and charts shown are hypothetical used for illustrative purposes only and do not represent any actual investment. The information given herein is taken from sources that are believed to be reliable, but it is not guaranteed by us as to accuracy or completeness. This is for informational purposes only and in no event should be construed as an offer to sell or solicitation of an offer to buy any securities or products. Please consult your tax and/or legal advisor before implementing any tax and/or legal related strategies mentioned in this publication as NewEdge Advisors, LLC does not provide tax and/or legal advice. Opinions expressed are subject to change without notice and do not take into account the particular investment objectives, financial situation, or needs of individual investors.
