Stocks Take a Fresh Look at Inflation

Worries about commodity prices and interest rates will resurface next week, as investors comb through more economic data for clues about how much inflation may be affecting the U.S. economy.

After this week's sharp sell-off, U.S. stocks may be stuck in a holding pattern next week until investors get key data on housing, consumer sentiment, and revised first-quarter GDP growth figures. Investors will use that data to determine how likely the Federal Reserve may be to keep raising interest rates in an effort to control inflation.

"Next week is interesting because we've really now put most of the earnings season behind us," said Brock Ganeles, head of equities at Merriman Curhan Ford & Co. "It's easier for macroeconomic factors to impact stocks even more because you're not hearing from companies as much."

Inflation reared its ugly head this week and sent the stock market into turmoil as government data showed U.S. consumer prices rose faster than expected in April.

For the week, the Dow Jones industrial average finished down 2.1 percent, and the Standard & Poor's 500 Index slid 1.9 percent. The Nasdaq Composite Index lost 2.2 percent, adding to declines from the week before and giving up its gains for the year.

"What we're seeing now is the slow cognition by the masses that the economy isn't hunky dory, inflation isn't well contained and the Fed isn't close to being finished," said Barry Ritholtz, fund manager at Ritholtz Capital Partners. "It's amazing so many market participants have been in denial.

"This isn't as 'Goldilocks' as people have been saying," he added. He was referring to the term Wall Street used to describe the economy in the mid- to late 1990s, when the economy was "not too hot, not too cold, but just right."

Numbers, Please

With few earnings reports to focus on, the most heavily anticipated number may be the preliminary reading on first-quarter gross domestic product on Thursday. The report on GDP growth could help investors judge how much inflation is affecting the economy.

Gross domestic product is the output of all goods and services within U.S. borders.

Economists polled by Reuters expect first-quarter GDP probably grew at an annual rate of 5.7 percent, up from the government's previous estimate of a 4.8 percent increase.

Investors also will be looking at the GDP report's implicit deflator component for clues about prices and inflation.

"The GDP number might be eventful because everyone now recognizes that it is expected to be revised upward, but ... they may also revise the inflation component to GDP and that might have an effect on the market simply because the market is fixated on inflation," said Charles Lieberman, chief investment officer at Advisors Capital Management.

Investors also will look closely at new home sales data on Wednesday, and existing home sales data on Thursday, for a hint about how rapidly the housing sector may be slowing.

The Reuters forecast calls for new home sales to slow to an annual pace of 1.15 million units in April from 1.213 million units the previous month.

Existing home sales are expected to slow to an annual rate of 6.75 million units in April from 6.92 million units in March, according to the Reuters poll.

Consumers and a Crude Awakening

On Friday, the government's personal income and outlays data, combined with the University of Michigan's final consumer sentiment reading for May will paint a picture of whether consumer spending has been deterred by high energy prices.

The final May reading on the University of Michigan's consumer sentiment index is forecast at 79.0, down sharply from the final April reading of 87.4, according to the Reuters forecast.

"The biggest focus is how much inflation in energy prices is going to impact consumer spending," Ganeles said. "That's two-thirds of the economy and that would trickle through to just about everybody."

U.S. crude futures settled nearly $1 lower on Friday, with the June contract at $68.53 a barrel as a broad sell-off swept commodity markets. For the week, the price of the NYMEX June crude contract was down almost 5 percent.

But gasoline prices in the New York metro area and other major U.S. cities are still hovering at around $3 a gallon, in the wake of NYMEX crude's jump a month ago to a record high of $75.35 a barrel on April 21.

The dollar's sharp rise on Friday sent gold and silver futures prices tumbling, which could remove some of the inflationary concern from the markets.

The first-quarter earnings season is mostly over. Still, investors may focus on quarterly profit reports from Campbell Soup Co. (CPB), home improvement retailer Lowe's Cos. (LOW) and home builder Toll Brothers Inc. (TOL) as they await key economic data toward the end of the week.

Next week, the market "is going to be based upon things like oil prices and changing perceptions of how policy will unfold," Lieberman said.

"If the market doesn't get anything that raises fear about inflation, I think buyers will slowly but surely come out of the woodwork and start to buy again."