U.S. consumer prices, excluding the volatile food and energy categories, rose 0.3% last month. That was the biggest climb in a year and is likely to fan inflation fears in financial markets.

The Labor Department says overall consumer prices rose 0.5% in January, the most in four months. Inflation rose 2.1% from a year earlier, and core prices increased 1.8%—both measures representing steady annual rates.

But the 1.8% core reading isn’t as tame as it might seem.

“Don’t take much solace in what looks like a still-modest 1.8% reading for core inflation over the past year,” says Royce Mendes, director and senior economist at CIBC World Markets. “That reflects soft price gains six to 12 months ago. In the latest six months, core is running at an annualized 2.6%, suggesting that the Fed’s core PCE price index might edge up over its 2% target.”

That means the Fed potentially has a lot of work ahead, with a hike expected in March, says Mendes. With fiscal stimulus boosted by the latest U.S. budget bill, “we could see a further 150 [basis points] in hikes through 2019,” he says.

Though inflation isn’t likely to run away from the Fed, says Mendes, “those who have been arguing the Fed had no reason to work to slow growth, and counting on fiscal stimulus to keep the economy in high gear, have the facts on inflation staring them in the face.”

Investors dumped stocks and bonds in the wake of the Labor Department report. The Dow Jones industrial average fell 50 points in mid-morning trading. The yield on the 10-year Treasury, a benchmark for mortgage rates, ticked up to 2.88 per cent.

Read: Fed to ‘gradually’ raise interest rates: Powell

Retail disappointment

Retail sales were down in January by 0.3%—the biggest decline in 11 months.

“It was the notable weakness in core retailing that was a surprise to us,” says Mendes. “Building materials and health-related purchases were the main culprits for the decline.”

He expects that ongoing strength in the labour market, thanks in part to fiscal stimulus, should see consumption reaccelerate as the year progresses. “We wouldn’t read too much into a soft January given the strength in consumption that preceded it,” he says.

The overall report is “negative for bonds, given the inflation focus of markets, and not likely to be a happy combination for stocks either,” says CIBC chief economist Avery Shenfeld, in an emailed note to clients.

Adds Mendes: “The combination of stronger inflation and weak retail sales has been negative for bonds and stocks, but positive for the U.S. dollar.

Read: Are fixed income fears unfounded?

Price details

Price increases were led by much higher clothing costs and more expensive car insurance.

Clothing costs jumped 1.7% in January after three months of declines. That was the biggest monthly gain since 1990. Auto insurance prices rose 1.3%, the most since 2001.

“Strength in apparel prices can be tied to a combination of the weaker U.S. dollar and a reversal of some of the soft numbers seen in that line item recently,” says Mendes.

Gasoline prices rose 5.7% last month, pushing up the headline index. Gas prices have risen a bit more this month: on Wednesday the nationwide average gas price was US$2.56 a gallon, up three cents from a month earlier.

Says Mendes: “A strong month for gasoline prices was a major contributor, but we already know that category is ceding ground in the current month.”

Also read:

Is it time to temper outsized risk appetites?