The Market Today
CPI Inflation Remains Volatile but Trend of Above-Target Inflation Still Evident
by Craig Dismuke, Dudley Carter
Most of Tuesday’s virus headlines came from corporate America. Nissan announced it was shutting down production for two weeks at a plant in Tennessee following an outbreak it linked to a supplier from Malaysia. American Express announced it was delaying its plans to bring employees back into the office until at least October 11. And Citigroup said it would require all employees planning to return to its offices to be vaccinated.
CPI Inflation Remains Volatile but Trend of Above-Target Inflation Still Evident: Headline and core CPI inflation slowed in July after an unsustainably fast growth rate in June. Headline CPI rose 0.5% MoM keeping the year-over-year rate at 5.4%. Energy CPI gained 1.6% MoM on higher natural gas prices while food CPI gained 0.7% MoM. Core CPI rose 0.3% MoM bringing the year-over-year rate down from 4.5% to 4.3%.
While the auto issue continues to have a large impact, there was at least some early evidence of reversion. Car and truck rental CPI, the first of the auto-related CPIs to run higher, fell 4.6% MoM. Used car CPI, which was up 30% from March to June, gained just 0.22% MoM. However, auto parts CPI climbed 1.1% MoM, and new car CPI rose 1.7% MoM as the problems remain. Adding to inflation worries, lodging away from home CPI rose 6.0% MoM even after surpassing its pre-pandemic level in June. Airline fare CPI pulled back 0.1% MoM, remaining almost 10% below its pre-pandemic level.
The biggest concern currently evident regarding sustainably above-target inflation is the rise in housing CPI. Housing CPI, which makes up more than 41% of the inflation bucket, has been running at a lower-than-normal rate but has turned higher over the past three months. Owners equivalent rent CPI rose 0.3% MoM, bringing the year-over-year rate up to 2.4%.
Bottom Line: Overall, there remains evidence of broader inflation pressure and reasons to believe that CPI will run sustainably above the Fed’s 2% target for some period of time. However, there is also evidence that some of the pandemic-driven volatility will settle.
Mortgage Applications Tick Higher: Mortgage applications for the week ending August 6 rose 2.8% on a 1.8% increase in purchase apps and a 3.2% gain in refis. The average 30-year mortgage rate inched up 2 bps to 2.99%. While refis have rebounded a bit over the past five weeks, purchase apps have remained slow, still down 26% from January’s level.
Mester Ponders Fed’s Framework: Cleveland Fed President Mester, yesterday, addressed the apparent conundrum the Fed finds itself in, having recently shifted to a framework that explicitly focuses on actively addressing shortfalls from full employment. Against the current backdrop of high inflation and high unemployment, Mester recalled that policy makers in “Both Europe and the U.S. have recently released new frameworks for their monetary policy making that were driven in part to just changes in inflation dynamics over the past two decades.” Acknowledging the rub, however, Mester went on, “Really understanding whether there is now a change in dynamics again in the aftermath of the pandemic is of vital interest,” subsequently raising of the question of how long current strong inflation readings will last.
Stocks Rise With Yields as Infrastructure Moves Forward and Investors Await U.S. Inflation Update: Stocks reversed trend for a second session, sending the S&P 500 and Dow higher while the Nasdaq unwound its Monday gain. The Dow rose 0.5% while the S&P 500 inched 0.1% higher, both closing at new record highs. Following an uneven morning session, the S&P 500 found more consistent footing after lunch, supported by strong gains in cyclical sectors. Passage of the infrastructure bill in the Senate (more below) would be an easy explanation, but success in the Senate was expected and the fight for the bill to become law is far from finished. Nonetheless, the risk-on tone was clear and led by energy companies, as crude prices recouped a portion of their recent losses. Financials also rose more than 1%, alongside industrials and materials, as Treasury rates added to recent gains despite a drop in business confidence and solid auction of 3-year notes. In addition to equities’ risk-on trend, analysts also cited corporate debt issuances as a daily source of upward pressure that lifted Treasury rates for a fifth consecutive session. The belly of the curve led again, with the 5-year yield rising 3.1 bps to 0.83%. The 2-year yield added 1.8 bps to 0.24% while the 10-year yield ascended 2.5 bps to a 20-day high of 1.35%.
U.S. equity futures remained camped out near record levels early Wednesday as Treasury yields extended a five-day climb ahead of this morning’s CPI data. Prior to the U.S. data, the final release confirmed initial estimates that harmonized inflation in Germany rose 0.5% MoM in July and 3.1% YoY, the fastest annual rate since 2008. Germany’s 10-year yield was 1.0 bp higher at -0.45% at 7:20 a.m. CT, trailing even larger gains around the continent. Minutes before the U.S. CPI report was released, medium-term maturities were leading Treasury yields’ gains; the 5-year yield was up 2.0 bps to 0.85%, near its highest level since June, and the 10-year yield had risen 1.9 bps to 1.37%. With inflation foregoing another upside surprise, yields dropped quickly in a response of relief, pulling the 5-year yield 1.1 bps lower on the day and the 10-year yield back to unchanged for the session.
Senate Passed Bipartisan Infrastructure Bill: The $1 trillion spending package, which includes $550 billion in spending above current baseline levels, received 69 yeas and 30 nays. Among other items, the bill, which had been stuck in negotiations for weeks, would provide $110 billion for roads and bridges, $66 billion for railways and Amtrak, $65 billion for the power grid, $65 billion to expand broadband access, $55 billion for clean water initiatives, $47 billion to improve infrastructure resiliency, $39 billion for public transit, and $7.5 billion for electric vehicle charging stations. The authors of the bill plan to repurpose unspent COVID-19 funds and use other measures to offset the cost, while opting to leave out any increases of the federal gas tax or corporate and individual income tax rates. The CBO said last week that the bill would increase the deficit by $256 billion over a decade. While Senate passage marks a victory for its supporters, the legislation, which is smaller than the $2.3 trillion American Jobs Plan initially proposed by the White House, faces an uncertain path in the House. Speaker Pelosi has said she won’t consider the bill unless the Senate also passes the $3.5 trillion social spending bill. The Senate advanced a budget resolution on Monday that Democrats plan to use as the basis for passing the bigger $3.5 trillion spending package using reconciliation without Republican support.