'This is the AI economy,' but we have yet to figure out how to tele-transport Amazon packages, says strategist

Record-high fuel prices are hitting shares of companies that keep the U.S. economy moving.

America runs on diesel.

That's crucial right now, because while rising retail gasoline prices have squeezed Americans' budgets, it's the record high price of diesel that is more concerning for the U.S. economy.

"Higher diesel prices are a very big concern," said Sam Stovall, chief investment strategist at CFRA Research. "Even though this is the AI economy," Stovall said, we "have yet to figure out" how to tele-transport Amazon packages.

The U.S. average retail diesel price hit a fresh all-time high of $6.45 a gallon on Friday, the latest in a string of records. The national average for a gallon of regular gasoline reached $4.47 on Friday, up about 40 cents from a month ago, according to AAA.

A major risk now is that diesel prices stay high - and continue to put upward pressure on inflation - because companies are going to continue to pass that cost along to consumers, Stovall said.

There's also worry that the Iran war could push oil prices (CL00) (BRN00), which largely hovered above $100 a barrel this week, up even higher in the countdown to the U.S. midterm elections in November.

"The unanswerable question is oil," said Jeff Schulze, head investment strategist at Franklin Templeton Institute, noting there are roughly six weeks until the midterms.

A move up to the $140-a-barrel threshold can't be entirely ruled out, he said, nor a more aggressive path of Federal Reserve rate hikes than is currently expected.

Schulze called that a "tail risk," or an unlikely outcome that could trigger an extreme market reaction. In his view, the more probable scenario is that the approaching midterms shift the calculus in favor of President Donald Trump finding an offramp to the war.

Planes, trains and trucks

Trucks alone dominate the movement of goods in the U.S., but the railways play a major role in moving coal, lumber, ore and other bulk cargo over very long-haul routes.

Diesel is the lifeblood of those industries, and a workhouse fuel of the economy. Higher energy costs have begun playing a role in punishing the Dow Jones Transportation Average DJT, an old-school gauge of the economy that has 20 stocks that span airlines, railroads, trucking and other areas of transportation logistics.

The index on Friday closed 16.1% below its April record high of 23,933.14, according to Dow Jones Market Data.

That means it's already in a correction, or at least a 10% decline from its peak. Stocks and other assets fall into a "bear market" once they close at least 20% below a previous record high.

It can be debated whether the Dow Transports, or other traditional barometers, still work as well as they did 20 or 30 years ago to help gauge the economy, given its tilt more heavily toward technology, said Jose Rasco, chief investment officer Americas at HSBC Private Bank and Premier Wealth.

Yet as the Iran war drags on, global energy chokepoints have expanded well beyond the Strait of Hormuz. Refining bottlenecks have begun creating headaches, and surging diesel prices have a top Senate Republican floating a potential export ban of the fuel.

Higher fuel, inflation and borrowing costs already have lower- and middle-income consumers shifting toward value, such as trading steak for hamburger, Rasco at HSBC said. While he expects more economists to start talking about recession risks in the months ahead, he isn't anticipating the U.S. to go full "hamburger to Hamburger Helper" and tip into a recession.

Previous crude-oil shocks since World War II often preceded U.S. recessions, in part because monetary policy adjusted and tightened financial conditions to help control inflation. In 2020, it was global lockdowns that sapped demand for fuel almost overnight, while triggering a short-lived U.S. recession. Yet inflation has yet to return to the Fed's 2% annual target.

The Fed's conundrum

The Fed under new Chairman Kevin Warsh raised interest rates on Wednesday for the first time in three years, while signaling that more increases look likely.

The Fed is likely to hike once more this year, bringing its short-term policy rate up to a 4% to 4.25% range, but then hold that level through 2027, Rasco said.

Meanwhile, the selloff in the bond market has pushed the all-important 10-year Treasury yield BX:TMUBMUSD10Y up to 5%. That's a level that can create pain in stocks. But many corporations still have a few years before the bulk of their ultra-low pandemic borrowings need refinancing.

It typically takes a weak economy, a default wave or job losses to trigger a recession. High mortgage rates have mired the U.S. housing market, but the artificial-intelligence spending boom has provided fuel to the economy and kept the S&P 500 SPX only 2% away from its record high.

There "certainly is a possibility of materially higher interest rates" from here, according to Schulze at Franklin Templeton. But he still sees the stock market's resilience, despite tariffs, the Iran war and higher long-dated yields, as a positive sign.

"I think the market can persevere and ultimately move higher - and the bull market can continue," Schulze said.

-Joy Wiltermuth -Claudia Assis