Hotter-than-expected inflation data sent stocks reeling on Tuesday, effectively dashing investors hopes for a March rate cut. However, comments from some Federal Reserve officials has provided reassurance that cuts will come eventually.

Allianz Chief Economic Advisor Mohamed El-Erian gave Yahoo Finance his three takeaways from this week's data and Fedspeak. He says that the path to the Fed's 2% inflation target is "not going to be smooth" and that the market had "over-embraced the notion of a very soft landing." The third thing he points to is the strong market reaction to the inflation data as an indicator of the depth of the market.

Another concern for investors was the weaker-than-expected January retail sales data. El-Erian, who also serves as President of Queens' College at the University of Cambridge, says that he hopes the data was a "blip." If it's not, El-Erian claims that he will be more concerned about the retail sales data than the inflation data. Why? "Because US exceptionalism has been based on the ability to continue to grow and grow powered by the household sector and powered by retail sales." It's why. EL-Erian says, the US has outperformed other economies.

Other "yellow" flashing data El-Erian is watching is what he is hearing from companies' in their quarterly reports. He notes that companies that have more exposure to lower-income households are seeing more softness. He also points to how guidance has varied strongly from company to company, meaning that "individual name selection is going to be critical... going forward."

Watch the video above to hear what El-Erian says about housing and why investors should "be careful of a Fed that is too data dependent."

Editor's note: This article was written by Stephanie Mikulich

For more expert insight and the latest market action, click here to watch this full episode of Yahoo Finance Live.

Video Transcript

- All right. Well, futures edging higher today. This comes after Chicago Federal Reserve President Austan Goolsbee, calming nerves about inflation coming in hotter than expected. Take a listen.

AUSTAN GOOLSBEE: You want to measure in 3 months, 6 months, 12 month increments. If you do that, it's totally clear that inflation is coming down. We've had 6, 7 months in a row of the new flow rate of inflation has been very close to target or approaching the target.

- Well, to break down what this means for investors Mohamed El-Arian Allianz Chief Economic Advisor and Yahoo Finance's 3 to 5 anchor Julie Hyman, both joining us here for this chat. Good to have you on the show here. And a lot of people trying to make sense of what they saw with the CPI data and then you have Austan Goolsbee coming out.

But then you have Raphael Bostic also saying, look, we're perhaps expecting rate cuts looking at the summertime. What should investors make of some of the Fed speak and the CPI data that we've had so far?

MOHAMED EL-ARIAN: I think investors should make three things. One is that the last mile getting the 2% is not going to be smooth. Second, that the marketplace had over embraced the notion of a very soft landing that would allow the Fed to cut a lot. I think it's right now to listen to the Fed when they say three cuts probably starting in September. at one point the marketplace had priced in seven. So the marketplace has adjusted.

And then the third element is to ask itself why do we get such outsized reactions to data? The data miss wasn't that huge but the market reaction was enormous. We saw yields move by 13 to 18 basis points in a single session. And that tells you a little bit about market functioning and depth. So take it away as yes, it was a data miss. But I think it's aligning expectations more with what's likely to happen.

JULIE HYMAN: it's Julie. It's great to see you. I also wonder how we should think about the retail sales data that we got this morning, which showed that much larger than expected decline in retail sales. And again, just the murky picture that we have here, where largely the data has been beating expectations showing the resilience of the US economy and then you get a figure like that is that just sort of a blip.

MOHAMED EL-ARIAN: I hope it's a blip Julie, it's wonderful to see you. I hope it's a blip. If it's not, I would worry more about that number than the inflation number. Why? Because US exceptionalism has been based on the ability to continue to grow and grow powered by the household sector and powered by retail sales. That is why we have outperformed other economies.

That is why our stock market has done so well, it's the ability to grow. So I think that this number is a flashing yellow number. It's just one data point. So I don't want to make too much out of it. But when I look at the two data misses if you like, higher than expected inflation and lower than expected retail sales, I worry more about the retail sales one than I do about the inflation one.

JULIE HYMAN: Mohamed, I wonder where else you might be seeing those yellow signals if you will. And I know you're a macro guy but we're coming up onto the end of earnings season. We just heard about Cisco a few moments ago. And some of the issues it's having we've heard from some of the travel companies about some of that travel waning. We've heard a lot of companies talking about signs of spotty weakening demand. Does all of that add up to a yellow signal as well?

MOHAMED EL-ARIAN: It does. In fact, today's numbers catching up with a lot of what we've heard from companies for the last few weeks. You've summarized it well, and it has tended to be companies that serve lower income households that are seeing softness happen. So I think of this retail sales number as basically capturing what we've heard. The key issue is the guidance as you know and here we are a little bit all over the place.

Some companies are saying they continue to expect weakness. Others are seeing things picking up. And that just speaks to the amount of dispersion we are likely to get. Individual name selection is going to be critical truly going forward

- Mohamed, in the clip that we were playing a moment ago from Goolsbee, he went on to say just after that how much they're monitoring the housing part of this inflationary picture which continues to come in amazingly sticky and even more outsized than they anticipated. All that considered, what are the catalysts that you would be watching for that you anticipate may bring the housing component more in support of the Fed target?

MOHAMED EL-ARIAN: So the problem with housing as you know is the supply side, is that there isn't enough supply and therefore prices have stayed up even though affordability has declined. Part of it is people don't want to give up low rate mortgages and I wouldn't. Why give it up unless you have a really good reason? So so we're not seeing the flow that we normally see.

So people are being frustrated on quantity and price is not adjusting. A couple of comments on the Fed, one is be careful of a Fed that's too data dependent. The emphasis on the Fed is always on backward looking data and what's really important is for the Fed to mix that with some view of where we're going. Otherwise, you're conducting monetary policy looking through the rear view mirror.

Monetary policy acts with a lag. Two, the main issue about an inflation is going to be services, core services. They remain hot. They need to disinfalte faster before outright goods deflation, prices of goods actually coming down, turns around and starts going up again. So as much as I would focus on housing. I would also focus on core services because that's where we need to see faster disinflation.

JULIE HYMAN: Mohamed, put it all together for the people who are watching, who are wondering what the heck they should be doing in the markets right now. Should they be putting more money to work in equities right now, for example, even as we are at these or near these new highs?

MOHAMED EL-ARIAN: I think you need to look at what you're holding and make sure that you're comfortable buying it today. That's the first thing you need to do. We're going to see a lot more dispersion going forward. So it's really important to have that discipline. Second, don't fall into the trap of fading the US too early. There's a lot of pressure because the US has outperformed by so much to look at other parts of the world, Europe in particular.

If you look at other parts of the world, they're doing much worse than the US. Today we got news that the UK is in a technical recession, two consecutive quarters of negative growth and we got the news that Japan is in a technical recession. Europe is also going to be in a recession.

So when you look in terms of relatives, the US still dominates in terms of economic growth, in terms of inflation performance and in terms of its ability to attract money for future drivers of growth. So I would be careful not to fall into the trap that some people have fallen into consistently over the last few years of fading the US too early.

- And Mohamed, I mean, we're going to be getting an influx of data jobless claims, import-export prices, industrial production. But in terms of forward looking indicators, what are you looking at in terms of what's giving you the best indication of where the economy is headed?

MOHAMED EL-ARIAN: Earnings call. I listened really carefully to earnings call. You can start putting an image together by listening to different earnings calls and what they're telling you about what they are seeing. Companies are at the forefront and they have a much better sense of what's going on the ground at turning points. And this could be a turning point, so listen carefully to what companies are telling us.

This is the reason why a lot of people missed the inflation call calling it transitory. They weren't listening to the companies. The companies were making it very clear back in 2021, that that costs were going up and they felt confident, they could pass it on. And companies were telling us that they have pricing power and they were going to raise prices. But people somehow dismissed it from a macro perspective as transitory.

Listen to companies, they also indicated to us why we didn't fall into recession. 14 months ago, most people were thinking the US were going to fall into recession. The companies were saying our businesses are strong. So in order of forward looking nothing beats, what companies tell you?

- Does that mean that companies as well as investors have been overexuberant on the other side for cuts here?

MOHAMED EL-ARIAN: Oh, I mean, I remember and I was talking to Julie about at the end of last year, the market was pricing in 6 to 7 cuts starting in March. And I remember thinking, what are the markets seeing that is not there. Yes, we got over exuberance. November, December was a period of incredible exuberance. We made money as investors on both our stocks and our bonds.

We fully embrace the soft landing and we went too far. Now the fixed income market has adjusted, fixed income has delivered negative returns this year so far. So you've had the adjustment on the fixed income side and fortunately because the economy has been so strong, it has not come at the cost of equities. So equities are having a decent year even though rates have moved up and that just shows you the strength of the US economy.

- Thank you so much for joining us. Teeing up today's trading activity Mohamed El-Arian and Julie Hyman joining us for the conversation. I appreciate it.