The US Consumer Price Index rose at a three decade high of 6.2%, on a year-over-year basis
US inflation exceeded consensus estimates by a wide margin in October. Specifically, the CPI accelerated at a 31-year high of 6.2% year-over-year (yoy) from 5.4% in September. At the same time, the core index rose at a 30-year high of 4.6% yoy from 4.0% in the previous month.
On the demand side, consumption (goods) has been elevated because of pandemic preference shifts and generous fiscal support that drove households’ disposable income above trend. On the supply side, Covid-driven factory shutdowns (Vietnam, Indonesia), disruptions to semiconductor production, port closures and labor shortages have produced unprecedented supply chain disruptions.
Looking forward, CPI inflation is expected to accelerate further in November (+6.6% yoy for the headline and +4.8% yoy for the core index, according to the Federal Reserve Bank of Cleveland). On a positive note, US producers report that their main obstacles are not insufficient plant and equipment but rather shortages of critical inputs and labor, and expect meaningful progress on resolving these shortages and shipping delays in 2022. As Chair Powell said, the current imbalances will largely work themselves out.
A risk to the aforementioned benign outlook, is a possible feedback loop between spiking CPI readings, higher inflation expectations (consumers and businesses) and the eroding of purchasing power. In that context, the University of Michigan’s index of consumer sentiment decreased by 4.9 pts to 66.8 in November (a 10-year low). The report indicated that higher prices have weighed on sentiment.
All in, the inflation debate has been amplified once again. President Biden outlined that inflation is “worrisome” and that the reverse of its trend will be a top priority of his Administration.
In response to the inflation outcome, the US dollar rose at the highest level since July 2020 ($1.14). Treasury bonds sold off (US Treasury 10-yield: +13 bps wow to 1.58%), as investors brought forward their expectations regarding the first interest rate increase by the Federal Reserve (July 2022 vs September 2022 one week ago).
10-Year inflation breakeven rates rose by 19 bps wow to 2.73%, their highest level since 2006, as 10-Year Treasury Inflation-Protected Securities (TIPS) declined by 6 bps wow to -1.19% (a record low, data since 1997), suggesting medium to long-term growth concerns.
The S&P500 declined by -0.8% on Wednesday following the inflation announcement, albeit it recovered its losses by the end of the week. Based on correlations since 1974, commodity-related sectors (e.g. Energy, Materials) tend to outperform the S&P500 under rising inflation, while consumer-related sectors (e.g. Consumer Discretionary & Staples) underperform the market.
In light of the high inflation numbers, persistent inflation is among the biggest concerns for investors in the next 12-18 months according to Fed’s Financial Stability Report and BofA’s survey on credit investors. Moreover, 285 S&P500 companies commented on inflation during their earnings conference calls in Q3:2021, the highest figure since 2010.