Inflation Breather
Much to the market’s delight, particularly the NASDAQ, inflation cooled slightly in Oct ‘22 to 7.7% from 8.2% the month prior. As the chart below highlights, the June ‘22 inflation print of 9.1% may now be viewed in retrospect as the peak. Following the June ‘22 reading, a steady decline of small monthly increments ensued until Sept ‘22 when numbers up-ticked again to 8.2%. This 0.1% change in course, after 3 months of declines, appeared to be enough for the Fed to rebrand it’s approach as “higher for longer” heading into this past week’s inflation reading. Interestingly enough, some of the tough talk softened in recent weeks with the Fed re-confirming it’s commitment to fighting inflation while at the same time decoupling it’s commitment to economic data for determining the size of its next rate hike. These comments, not surprisingly, came out right before Thursday’s inflation report.
The November CPI print comes out on Dec 13th, the day prior to the Fed’s final rate hike decision for the year. A 75 bps rate hike was firmly on the table until this week. Consensus talk is already starting to shift towards 50 bps. However, it plays out, all eyes will be watching the 1-2 punch of a CPI reading and Fed Rate hike decision in the final weeks of 2022.
To wrap it up, the chart below, which I’ll continue updating, highlights a few key points. First off, it crystallizes the speed at which the Fed has taken rates from 0.25% as of Feb ‘22 all the way up to 4.00% in Oct ‘22. It’s remarkable more hasn’t broken yet with such a rapid tightening of the vice. This could change as the ripple effect of higher rates continues to reverberate in financial markets starting with variable rate and other loan products resetting or rolling over in the coming months.
Secondly, it’s been remarked that until the Fed Funds exceeds CPI, the inflation battle can not be won. The spread is now 3.7% down from the peak of 8.0% in March ‘22. Current projections point to the Fed hitting a terminal rate of 5.5% in 2023. If last month’s 0.5% inflation rate of decline continues, we could possibly reach this point by the early to mid-point of next year.
Finally, today the 10Y Treasury yield finished this week at 3.8%, a material drop after Thursday’s reading and even October’s month-end yield of 4.08%. The 3M Treasury yield also ended the week at 4.11%, taking us from a flat yield curve at the start of the week to inverted by week’s end. Given the historical implication of this data point forecasting a recession, it will be interesting to see if the inversion holds or if it flattens again once the market realizes the return to normalcy (i.e. Fed pivot) may not happen as quickly as expected.
