Inflation, Inversion and Investment Implications

By: Edward Jones
 
DEWITT, Mich. - July 19, 2022 - PRLog -- Inflation and central bank policy were in the driver's seat last week. June's stronger-than-expected rise in consumer prices pushed headline inflation to 9.1%, a 41-year high1. This suggests the Federal Reserve has more work to do to achieve its price stability mandate.

While markets finished lower for the week, June's inflation surprise elicited a different market response from May's consumer price index (CPI) surprise. After this past Wednesday's inflation news, the S&P 500 rose while the 10-year Treasury yield fell, indicating markets might already be looking past the inflation peak to the likelihood for slower economic growth ahead.

We'd offer the following perspective on inflation and the yield curve inversion, and share our views on the investment implications.

Inflation

Another upside surprise triggers volatility, but some relief is on the way.
  • High energy and food prices are driving the story — Headline CPI increased 9.1% from a year ago, up from 8.6% in May and ahead of consensus expectations. Energy prices alone were 42% higher from a year ago and rose 7.5% from May, contributing to almost half the overall increase in inflation. Adding to the pressures, food prices had their highest monthly increase since 19811.
  • But since June, commodity prices have fallen sharply — Oil declined last week to its lowest level since the start of the Ukraine invasion, briefly trading at $91 before ending the week at around $98. Gasoline prices, a major contributor to inflation, were over $5 a gallon in mid-June but have since fallen to a national average of $4.58. While commodity prices remain elevated, we have recently seen broad-based weakness, supporting hopes that inflation is peaking. For example, oil is down 22% from its peak, natural gas is down 28%, copper is down 34%, lumber is down 62%, and wheat is down 44%1.
  • Yet inflation is too broad for comfort — The core CPI index — which better reflects the underlying inflation trend because it excludes the more volatile food and energy prices — rose at a 5.9% pace over the past year, down slightly from the 6.0% pace reported for the past month.

    This is the third straight month core inflation has cooled from its high of 6.5% in March1. However, price pressures still remain broad. Two-thirds of the CPI components are rising more than 5%, and rent — the biggest services component — recorded its largest monthly advance since 19861. With borrowing costs rising sharply, the housing market is starting to cool. But historically, a slowdown in home prices takes about a year before it's reflected in rents.
Sources: 1. Bloomberg, Edward Jones

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