By: Jose Torres, Interactive Brokers’ Senior Economist
The CPI came in hotter than expected at 8.3 percent on a year-over-year basis while the core segment which excludes food and energy due to their volatile characteristics was up 6.3 percent. Headline and core both accelerated on a month-over-month basis at 0.1 and 0.6 percent respectively. While gasoline prices have fallen significantly against the backdrop of increased supply from the Strategic Petroleum Reserve (SPR), decreased demand due to Chinese lockdowns and slowing economic conditions, overall inflation continues to rise. Lofty price increases in rents, food, and medical care offset all of the progress made on the gasoline front and then some. Furthermore, all major categories ex-energy experienced price increases from July to August with used cars being the small exception experiencing a modest m/m decline of 0.1 percent.
Looking ahead, the first winter since the start of the armed conflict in Eastern Europe may not provide a positive backdrop for lower gasoline prices, which have supported lower inflation readings in the second half of 2022. The geopolitical conflict in Europe alongside a probable October halt in SPR oil releases can contribute to a new leg higher in oil prices, complicating the FED’s 2 percent inflation goals. Food prices at the supermarket and at dining establishments continue to be propelled by a stressed commodity complex, geopolitical tensions, unfavorable climate conditions and labor shortages. Rents are likely to continue rising as housing affordability remains stretched, pushing prospective buyers into the rental market at a time of a structural housing shortage. Labor shortages and elevated levels of liquidity will continue to push up prices in the services segments as companies pass on rising costs to consumers. Consumers have the capacity to continue to pay higher costs as they’re supported by a tight labor market with growing wages, excess savings from the pandemic and elevated credit card spending.
The August inflation reading must worry the FED as they are primarily focused on core m/m changes which accelerated from 0.3 percent in July to 0.6 percent in August. Continued price pressures pose the risk of inflation becoming increasingly entrenched in the economy as well as in people and firm psychology, affecting behaviors. FED tightening has contributed to price cooling which takes a while to work its way through the economy and thus far it hasn’t been nearly enough. Services and rent are not volatile like gasoline, are characterized by price stickiness and will require further increases in the unemployment rate to cool off. Expectations of another super-sized 75 basis point hike in November rose to 49 percent this morning, a very unlikely scenario just a couple of hours ago.
Yesterday we wrote, “While the equity market may cheer another reduction in headline inflation, rising core prices, a weak seasonal period, rising yields and overbought conditions in the short-term suggest a bearish response. The market is more likely to view this report through a bearish lens as FED hawkishness and rising yields become the primary focus.” The market has been quick to cheer the idea of a Fed pivot and slower inflation without fully pricing in the negative implications for corporate earnings and valuations. Quantitative tightening just started a few months ago, is ramping up to double the level and we have yet to feel the full effects of tighter policy coming down the pipeline. The effects are negative for earnings prospects due to slowing consumption and borrowing while also negative for valuations because it props up bond yields which makes risk assets like high-beta stocks and cryptocurrency less attractive.
This post first appeared on September 13th 2022, Traders’ Insight Blog
PHOTO CREDIT: https://www.shutterstock.com/g/unio
DISCLOSURE: INTERACTIVE BROKERS
The analysis in this material is provided for information only and is not and should not be construed as an offer to sell or the solicitation of an offer to buy any security. To the extent that this material discusses general market activity, industry or sector trends or other broad-based economic or political conditions, it should not be construed as research or investment advice. To the extent that it includes references to specific securities, commodities, currencies, or other instruments, those references do not constitute a recommendation by IBKR to buy, sell or hold such investments. This material does not and is not intended to take into account the particular financial conditions, investment objectives or requirements of individual customers. Before acting on this material, you should consider whether it is suitable for your particular circumstances and, as necessary, seek professional advice.
The views and opinions expressed herein are those of the author and do not necessarily reflect the views of Interactive Brokers LLC, its affiliates, or its employees.
Any trading symbols displayed are for illustrative purposes only and are not intended to portray recommendations.
In accordance with EU regulation: The statements in this document shall not be considered as an objective or independent explanation of the matters. Please note that this document (a) has not been prepared in accordance with legal requirements designed to promote the independence of investment research, and (b) is not subject to any prohibition on dealing ahead of the dissemination or publication of investment research.