Consumer Sentiment Drops While Inflation Expectations Surge, But Markets Brush Off Concerns

The University of Michigan (UoM) Consumer Sentiment Index for March came in at 57.9, well below expectations of 63.1 and marking the lowest reading since July 2024. The index has now fallen for three consecutive months and is down 22% from December levels. The sharp drop in sentiment was broad-based, with declines seen across all age groups, income brackets, education levels, and political affiliations.

While current economic conditions were little changed, expectations for the future took a significant hit, with concerns mounting over personal finances, labor markets, inflation, business conditions, and stock market performance. The ongoing uncertainty surrounding trade policies and tariffs was a major contributor to the deteriorating outlook, with many consumers hesitant to make significant financial commitments amid potential economic disruptions.

Inflation Expectations Jump to Multi-Year Highs

While sentiment has been weakening for months, the most alarming aspect of the report was the jump in inflation expectations. The one-year inflation outlook surged to 4.9%, up from 4.3% in February and marking the highest level since November 2022. Meanwhile, five-year inflation expectations spiked to 3.9%, the highest reading since February 1993.

This sharp rise in inflation expectations raises concerns about consumer behavior, as higher anticipated inflation often leads to more cautious spending. The surge also contradicts recent hard data, such as CPI and PPI reports, which have suggested inflationary pressures were cooling.

The Tariff Factor and Political Uncertainty

The latest sentiment figures arrive amid escalating trade tensions, with President Donald Trump instituting tariffs on key imports. New duties on aluminum and steel took effect this week, and the administration has threatened 200% tariffs on European Union liquor in response to the EU imposing 50% levies on U.S. whiskey and other goods. The uncertainty around tariff policies appears to be weighing on consumer confidence, with all major political groups reporting a weaker outlook for the economy.

Even Republicans, who were more optimistic following Trump’s election victory, saw their expectations decline 10% in March, while Democrats and Independents experienced even steeper drops of 24% and 12%, respectively.

Markets Shrug Off the Weak Data

Despite the concerning sentiment data, U.S. equities continued to rally, a potentially bullish signal that suggests the market has already priced in much of the negativity. Stocks initially wavered after the report but regained ground, with the S&P 500 moving higher, indicating that investors were willing to look past the weak survey results.

Historically, soft data like sentiment surveys tend to be less reliable indicators of economic conditions than hard data such as retail sales, inflation reports, and employment figures. Over the past few years, surveys have leaned pessimistic while economic growth has continued.

Furthermore, November 2022 marked the last peak in inflation expectations, which also coincided with the stock market bottoming before launching into its current bull run. If this pattern holds, it could suggest that much of the bad news is already reflected in stock prices, potentially setting up a buying opportunity.

What This Means for Investors

1. Sentiment is weak, but it’s a lagging indicator – Consumers tend to feel worse after periods of economic stress, meaning sentiment often trails actual conditions. Markets, on the other hand, are forward-looking.

2. Inflation expectations bear watching – The Federal Reserve has repeatedly stated that long-term inflation expectations are critical in determining future policy. A sustained surge could complicate rate-cutting plans.

3. Equities are resilient – The market’s ability to rally despite bad news suggests that much of the negativity has already been priced in, and buyers are stepping in rather than selling off.

4. Tariffs are the wild card – If new trade restrictions cause price spikes, the inflation story could worsen. However, if tariffs ease or their impact is minimal, inflation expectations may moderate.

Final Thoughts

The University of Michigan’s survey paints a cautious picture, but the market reaction tells a different story. While sentiment and inflation expectations are concerning, the fact that stocks are holding firm suggests investors may be looking past the current uncertainty and positioning for long-term strength.

If equities continue to rally despite weak consumer sentiment, it would indicate that the market believes economic fundamentals remain intact and that a soft landing scenario is still possible despite inflation concerns. Investors should keep an eye on upcoming CPI reports, Fed commentary, and tariff developments to gauge whether sentiment trends are truly indicative of future economic weakness or just another bump in the road.