March CPI Came In at 3.3%. Gasoline Alone Added Over Half a Percentage Point. Here Is What That Tells Investors About What Could Come Next

Investors just got their first taste of the war in Iran's impact on prices, and it wasn't pretty. Inflation soared in March, with the Consumer Price Index (CPI) rising 3.3% year over year and 0.9% month over month.

Ordinarily, investors would balk at such a jump, but the spike was widely expected as energy prices soared due to the war in Iran and the closing of the Strait of Hormuz. This time, investors seemed to shrug off the news, as indexes were mixed shortly after the opening bell. The headline CPI figure was actually slightly below expectations at 3.4%.

The jump in inflation was widely expected as oil prices soared immediately after the conflict began and was driven nearly entirely by higher fuel prices, with gasoline up 21.2% from February and fuel oil up 30.7% from the previous month.

Core inflation, which excludes the more volatile food and energy categories, was steady, up 2.6% year-over-year, compared with 2.5% growth in February. Month-over-month, it rose 0.2%.

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What it means for investors

Rising inflation is generally problematic for investors for two reasons. First, it dissuades consumer spending, which is the engine of the U.S. economy. If consumers are spending more on gas, they'll have less to spend on discretionary goods and services like eating out, travel, and entertainment. That could be a headwind for economic growth and increase the chances of a recession.

The other reason is that higher inflation tends to make it more likely that the Fed will raise interest rates, or at least not lower them.

However, this time around, investors seem to be betting that the Fed will look past the jump in inflation since it was primarily caused by gas prices.

The odds of a Fed rate cut by the end of the year held steady on the news, with the chance of rates remaining where they are rising from 71.1% to 72.3%, according to the CME Group FedWatch tool.

That's good news for investors, and it makes sense as Fed Chair Jerome Powell has differentiated between short-term inflationary shocks, such as the closing of the Strait of Hormuz, and more sustained sources of inflation.

For now, inflation and oil prices warrant monitoring by investors, as the situation in Iran and the Strait remains fluid even after the ceasefire agreement. However, the market seems confident that higher energy prices are more of a short-term headwind rather than a lasting crisis.

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