Core PCE Price Index

The Core Personal Consumption Expenditures Price Index (often just called Core PCE) is a measure of inflation in the United States. Think of it as the price tag for the average basket of goods and services that people buy. It’s published monthly by the U.S. Bureau of Economic Analysis (BEA). What makes it “Core”? It cleverly strips out the two most notoriously jumpy categories: food and energy. A sudden oil crisis or a bad harvest can cause wild swings in these prices, but that doesn't necessarily reflect the long-term price trend for everything else. By removing them, economists get a clearer, less noisy picture of underlying inflation. This stability is why the U.S. Federal Reserve (the Fed) officially declared the Core PCE Price Index as its favorite inflation gauge. When you hear news anchors anxiously awaiting the Fed's next move on interest rates, you can bet that the latest Core PCE numbers are sitting right at the top of their meeting agenda.

Most people are more familiar with the Consumer Price Index (CPI), another popular inflation measure. So why does the Fed, the most powerful financial institution in the world, favor the PCE? It boils down to a few key differences in how they're calculated, making the PCE a more comprehensive and responsive indicator for crafting monetary policy.

The simplest way to think about it is that the CPI measures what you, the consumer, pull out of your own wallet to buy. The PCE Price Index, however, measures what is spent on your behalf as well. This is a crucial difference.

• CPI: Focuses on out-of-pocket expenses for a typical urban household.
• PCE: Includes those same expenses plus indirect ones, like medical care paid for by employer-sponsored insurance or government programs (e.g., Medicare). Since healthcare is a massive part of the U.S. economy, including it gives a more complete picture of price pressures.

Imagine if the price of steak tripled. You'd probably buy more chicken. The PCE index is smart enough to see that, but the CPI is a bit slower on the uptake.

• CPI: Uses a relatively fixed basket of goods. The weights for each item (how much steak vs. chicken is in the basket) are updated only every two years. It assumes you keep buying the same things, even if prices change dramatically.
• PCE: Uses a “chain-weighted” formula. The basket's contents are updated monthly based on what people are actually buying. This accounts for the substitution effect—our natural tendency to switch to cheaper alternatives when prices rise. This makes the PCE a more dynamic and realistic reflection of our spending habits.

Okay, so it's the Fed's favorite toy. But why should it matter to you, a value investor trying to find great companies at fair prices? Because the Core PCE is a powerful signal that directly influences the investment landscape.

The Fed’s primary weapon against high inflation is raising interest rates. Higher Core PCE readings often lead to the Fed tightening its policy.

• Impact on Valuations: Higher interest rates make “safe” investments like government bonds more attractive. This, in turn, makes riskier assets like stocks less appealing unless their prices fall. More technically, in a discounted cash flow (DCF) model, higher interest rates increase the discount rate, which lowers the present value of a company’s future cash flow. In short: rising PCE → rising rates → falling stock prices. For a patient value investor, this can create fantastic buying opportunities for wonderful businesses that get unfairly punished by macroeconomic panic.

Persistent inflation, as measured by the PCE, separates the great businesses from the mediocre ones. Companies with strong competitive advantages, or “moats,” can pass rising costs onto their customers without losing business. This is known as pricing power. When you analyze a company, ask yourself: if the PCE shows costs are rising across the board, can this company raise its prices just as easily? A business that can is resilient. A business that can't will see its profit margins shrink. The Core PCE provides the context for this crucial test. By watching it, you gain insight not just into the Fed, but into the very health and resilience of the companies you want to own.