The Market Today
Above-Target CPI Results Still Appear Temporary in July Report
by Craig Dismuke, Dudley Carter
Headline CPI Holds at 2.9% YoY While Core Increases to 2.4%, Above-Target Readings Still Appear Temporary: Headline CPI rose 0.24% in July while core prices (excluding volatile food and energy categories) rose 0.17%. Energy prices fell 0.51% MoM while food prices rose 0.13%. On a year-over-year basis, headline prices rose 2.9% which – if inflation does not pick up steam – should be near the short-term peak from the much-discussed base effect issue (unusually weak numbers in mid-2017 rolling off the tally and pushing the year-over-year rates temporarily higher). Core prices, also affected by the base effects, rose from 2.3% to 2.4% YoY.
The most influential categories of core inflation showed mixed results. Owners’ equivalent rent, accounting for 31% of the core component basket, rose 0.29% MoM which was fractionally firmer than the recent trend rate. Medical care prices fell 0.18% MoM as medical care equipment prices dropped an unusually large 1.13% and professional services fell 0.13%. Auto prices stuck out as one of the unusually strong categories, up 0.73% MoM as used car prices jumped 1.31%. This brought the YoY pace of auto price gains up to 0.9%, its highest rate in almost five years.
When excluding these bigger categories, the remaining core items rose 0.65% YoY, the fastest rate of growth since February 2013. However, some of this broader traction should prove temporary, the result of previously referenced base effects. Looking at the indicators for future inflation, the data is lining up to yield a small pullback in consumer prices over the next year, particularly the recent rise of the Dollar on a trade-weighted basis.
The unusual changes in July consumer prices were seen in airfare prices (rose 3.7% after falling in the previous three months), infants’ apparel prices (down 2.4% after jumping 2.5% in May), and women’s apparel prices (down 1.8%).
Bottom Line: The base effects continue to skew the year-over-year tallies of both headline and core consumer prices. Firm rent prices continue to keep core inflation bolstered offsetting some of the volatility in medical care and auto prices. There still does not appear to be any sign of breakout inflation in the monthly CPI data, and prices should pull back to near a 2.0% growth rate by early 2019.
Yesterday – Treasury Yields Moved Lower as Stocks Subtly Sell: Stocks faltered Thursday and the S&P closed down 0.1% and near its lows after a sharp drop in the final 30 minutes of trading. Energy companies continued to be a drag on sentiment, dropping another 0.9% as crude prices edged down to a new seven week low. Financial and industrial companies finished in the second and third spots from the bottom. Telecommunication companies gained nearly 1% to lead five sectors higher and help offset the downdraft from energy and others. Despite the daily disappointments, markets remained nearly moribund for a third day. Adding Wednesday’s 0.37% intraday high-to-low range to the prior two sessions’ activity, the S&P 500 has moved a total of 0.97% over the last three sessions, the quietest three-day stretch of 2018. The daily move lower in Treasury yields started in earnest after July’s headline PPI missed estimates. The 2-year yield (2.65%) slipped 2.2 bps while the 5-year (2.81%) and 10-year (2.93%)yields dropped 2.4 bps each. That marked the lowest close for the 10-year since July 20. Similar to yesterday’s 10-year auction dynamics, the 30-year yield moved down the most (-3.9 bps) despite the monthly auction tailing.
Overnight – Turmoil in Turkey Tanks Market Sentiment: Global market sentiment has deteriorated on Friday with equities notably weaker and sovereign yields catching a flight-to-safety bid. The pessimism around risk assets started early in Asia where major equity indexes outside of China declined. The negativity intensified across Europe and helped push U.S. equity futures lower ahead of this morning’s CPI report. Italian stocks sank 1.9% and were leading losses across Europe while Germany’s DAX dropped 1.7%. The Stoxx Europe 600 dropped 1% as all 12 sectors pulled back. There have been rumblings in the background this week caused by financial concerns around certain emerging markets, specifically in Russia and Turkey. Both countries have seen their currencies depreciate in response to U.S. threats of sanctions. For Turkey, the potential sanctions simply amplified economic woes that have been ongoing for months. The Turkish Lira plunged to an all-time low overnight after the Financial Times said the ECB was concerned about the financial impact it could have on EU banks. That headline coincided with sharp sell-off of the Euro and rally in the U.S. Dollar and Japanese Yen. It also lined up with the strongest push lower in U.S. equity futures and Treasury yields. The 10-year yield fell as low as 2.88%, its lowest since June 23. After this morning’s inflation report, yields pushed off their lows. The 2-year yield remained 1.2 bps lower and the 10-year yield moved to down 2.2 bps at 2.90%.
Evans Sounds a Bit More Hawkish about Rate Hikes: Chicago Fed President Evans (2019 voter), who dissented to the December 2017 rate increase, had some unusually aggressive policy takes for reporters at a Thursday media briefing in Chicago. Evans, who has historically fallen towards the more dovish end of the Fed spectrum, said that the economy is “extremely strong” and the labor market has continued to strengthen. As a result, he expects one or two more rate increases by the end of the year. Looking forward, with the unemployment rate below the Fed’s longer-run forecast and “good reason to expect [inflation] will stay in that [2 percent] area”, Evans said “a modest amount of restrictiveness above our neutral rate might be called for in 2020.” Evans said he believes the neutral rate to be 2.75%.