Mysteriously low inflation padded Corporate America's bottom line for years. Now soaring commodity prices and steadily rising wages threaten to ding record profits.
Major companies including Caterpillar (CAT), Halliburton and Harley-Davidson warned in recent weeks of rising costs for everything from steel and crude oil to trucking. President Trump's steel and aluminum tariffs are adding to the pricing headaches.
America's factories have been grappling with inflation this year. Prices for manufacturers have increased for five straight months to the highest since 2011, according to the Institute for Supply Management. Labor shortages and transportation delays are even making it harder for some factories to deliver their products on time.
"We expect steel and other commodity costs to be a headwind all year," Bradley Halverson, Caterpillar's chief financial officer, told analysts during a conference call last week.
Harley-Davidson (HOG) warned that Trump's steel and aluminum tariffs could jack up its raw materials costs by $20 million this year.
"We have a highly volatile situation," John Olin, Harley-Davidson's chief financial officer, told analysts last week. "That's going to provide quite a headwind for the company over the next several quarters."
Although some inflation may be evidence of a healthy economy, prices could rise to levels that eat into corporate profits, which have been juiced by years of low expenses.
"Inflation is now beginning to show up in the operations of a lot of different businesses," said Peter Boockvar, chief investment officer at Bleakley Advisory Group.
"This is the biggest threat to profit margins of the cycle," Boockvar said.
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Evidence of stronger inflation could grab the attention of the Federal Reserve, forcing it to speed up interest rate hikes. Fed officials are expected to acknowledge in a statement on Wednesday that inflation is moving up.
The Fed's favorite barometer of annual inflation, the core personal consumption expenditures index, rose in March to 1.9%. While that's not alarming, it is the highest in over a year and just a hair shy of the Fed's target of 2%.
"There is a very real potential that signs of increased inflation will lead the Fed to accelerate normalization," said Kristina Hooper, global market strategist at Invesco.
Consider the rising number of companies citing "inflation" during earnings calls. The term came up in 99 earnings calls of S&P 500 companies between March 15 and April 30, according to FactSet. That's up from 77 during the same period last year, FactSet said.
The good news is that businesses have a sizable cushion to absorb inflation, thanks to all the money they're saving because of tax cuts. Companies can also offset rising commodity costs by raising prices on customers.
But it's not just commodities fueling the pricing pressure. Trucking costs have been on the rise for months amid a shortage of drivers. Oreo and Ritz maker Mondelez (MDLZ) said this week that its profit margins were squeezed by both higher commodity costs and "freight inflation."
"Shortages of trucks and drivers has impacted delivery times," one executive from the food, beverage and tobacco products industry said in the ISM manufacturing survey.
Some industries are also starting to report evidence of rising wages because of worker shortages.
"The labor market is tight," Halliburton (HAL) CEO Jeff Miller said last week. "Given the level of activity, there will likely be wage inflation and additional pricing will be necessary for cost recovery."
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Pay raises would be terrific news for Main Street, which has grappled with anemic wage hikes during much of the recovery from the Great Recession.
With the unemployment rate at a 17-year low, economists have been forecasting that companies will be forced to pay more to fill open positions.
Mark Zandi, chief economist at Moody's Analytics, predicted in a report on Wednesday that the US unemployment rate could soon drop into the 3% range. However, he called it "rarified and risky territory, as the economy threatens to overheat."
If the Fed sees signs of overheating, it may be forced to cool the economy off through aggressive rate hikes, which slow growth. The recovery from the Great Recession hit a milestone this week: It's tied for the second-longest economic expansion in American history.
Wage inflation could be seen as a negative for stocks. Paying more to workers threatens to dent corporate profit margins, which grew to record highs thanks in large part to low labor costs.
"What's good for corporate profits was not good for Main Street," Boockvar said. "Now, it's a benefit to Main Street, but at the cost of possibly squeezing earnings."
Wall Street is already on high alert for signs of inflation that could force the Fed to act. Stocks began a months-long period of turbulence in early February after investors learned that wages increased in January at the fastest pace since 2009.
"That shocked markets," Hooper said.