Taming Inflation

Telemus Weekly Market Review September 5th - September 9th, 2022

This coming week, the Bureau of Labor Statistics will report the Consumer Price Index (CPI) for the month of August. The monthly CPI release used to be an economic indicator that was often overlooked, but as now become a focal point. Regardless of what this week’s report shows, it is important for investors to recognize that there is a long way to go before we can claim victory that the current inflationary environment has subsided.

The Federal Reserve has stated they are targeting inflation to average 2% on an annual basis. Over the past year, inflation has risen 8.5%; well ahead of this target. Its also not just important for the headline CPI data to ease, but for core CPI, which removes more volatility food and energy categories, to also show persistent declines. Mathematically to get inflation toward a 2% average, we need to see monthly CPI readings persistently around 0.2%. This is a far cry from where we have been. Even in July when CPI was flat due to a meaningful decline in energy prices, core CPI still rose 0.3%.

Our expectation is that inflationary readings are going to remain volatile for some time. Given the impact that Russia’s invasion of Ukraine has had on commodity markets, notably energy, it’s likely that we continue to see dramatic moves in oil and natural gas prices. In addition, prices on used cars, airfares and transportation have moved around considerably. We also believe that shelter costs will remain an inflationary pressure for another year or two. Apartment rents are up double digits over the past year and while rent increases seem to be peaking, they remain elevated relative to long-term trends. Given how the Bureau of Labor Statistics accounts for shelter costs, its likely that rent increases will gradually flow through the data over time. Given all of this, we expect there will be months where CPI readings will appear rather low and others where they will appear high. It’s the trend that matters, and a persistent downward trend is what the Fed seems to be focusing on given recent comments out of Fed governors.

The Federal Reserve Bank of Cleveland has developed its Inflation Nowcasting tool that attempts to forecast the coming month’s inflation reading. As of September 9th, this tool is forecasting a muted 0.1% increase in CPI for the month of August, but a 0.5% increase in core CPI. In our view, regardless of what data is released, we don’t believe its appropriate to assume inflation challenges have been solved. We are pleased to see the recent progress in easing the monthly CPI cadence, but the economy remains far from having a consistent and persistent trend where inflation appears to be anywhere near the Fed’s annual inflation target of 2%.

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