Ouch! The Bureau of Labor Statistics posted May data for the Consumer Price Index, or CPI, and you better wear your oven mitts. It was hot. And ugly.
After inflation had seemingly peaked in March and had appeared to ebb just a tad in April, all hopes, not just for the markets, but for the U.S. economy, were that there might be some more evidence that this rapid acceleration in consumer prices was cooling. Those hopes and dreams were a "no go" for May.
With a consensus of private sector economists looking for a year-over-year headline print of 8.3% (yours truly was down at 8.2%), and a month-over-month headline print of 0.7%, the reality that hit was for 1.0% on the monthly and 8.6% on the annual results.
At the core (less food and energy), economists were looking for headline growth of 0.5% month-over-month and 5.9% year-over-year (I was part of consensus here). Those results hit the tape at 0.6% and 6.0%, respectively.
These results were a resumption of acceleration after the month-over-month headline prints for April had come in at 0.3% month-over-month and 8.3% year-over-year.
Obviously, stocks sold off sharply in response, as did U.S. Treasuries. The U.S. Dollar Index surged in anticipation of a more hawkishly defined forward-looking trajectory for monetary policy. The 30-day T-Bill suddenly yields more than 1%; the Two-Year Note gives up more than 3%, and the 10-Year Note pays a rough 3.15%. The yields for the Three-, Five- and Seven-Year Notes are all inverted against the 10-Year as the Five-Year threatens to invert vs. the 30 Year. Just in case you still thought it might all work out for the best.
Here's the Rundown
--Food prices are up 10.1% over 12 months
--Meat, poultry and fish are up 14.2%
--Gasoline prices are up 48.7%
--Fuel oil prices are up 106.7%
--Electricity prices are up 12%
--New vehicle prices are up 12.6%
--Used vehicle prices are up 16.1%
--Airline fares are up 37.8%
What It Means
For one, elevated prices such as these will serve to slow demand and ultimately activity. That's one big reason why the U.S. economy contracted 1.5% in the first quarter and is flirting with doing so again for second quarter. According to the Atlanta Fed's GDPNow model, the second quarter is running at +0.9%.
This puts more pressure on the Federal Reserve to get more hawkish to slow inflation. That in turn will also slow demand, activity and ultimately labor markets as interest rates rise and excess liquidity is drawn out of the monetary base. Yes, this is a negative for stocks, especially smaller-cap stocks.
Smaller-cap stocks tend to be more reliant upon financing in order to maintain corporate operations. Though usually domestic, and therefore not having to deal with negative foreign exchange rates, running some of these firms will become more costly and just about all of them will have to focus on spending less to try to preserve margin.
Go to the banks with rates rising? That only works with spreads between short-term rates and long-term rates expanding. Right now those spreads are shrinking. Banks also tend to do poorly in a recessionary or nearly recessionary environment.
Next Tuesday, the Federal Open Market Committee meets on policy. We know what to expect.
We already know that the quantitative tightening program is underway. Futures trading in Chicago are currently pricing in an 87% probability of a half percentage point increase made to the Fed's target for the fed funds rate at that meeting. There is a 13% chance for a three-quarter percentage point hike.
Those same futures are currently pricing in at least a half-point hike on July 27 and a similar hike on Sept. 21. All in all, futures markets are setting up a 99% probability of at least 150 basis points in hikes to the fed funds rate by September, with a 49% chance for 175 basis points. These markets also imply a 70% chance for two-points worth of hikes by Nov. 2.
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