E-piphany

Below is a summary of my post-CPI tweets. You can (and should!) follow me @inflation_guy. Or, sign up for email updates to my occasional articles here. Investors, issuers and risk managers with interests in this area be sure to stop by Enduring Investments!

• It’s #CPI day again! These days it seems we live a year in every month, and from a data perspective that’s kinda true. There used to be months when there were no truly surprising data points. Here is my walk-up.
• Before I do, let me invite folks to take a look at our newly renovated website at https://enduringinvestments.com. It’s like we finally made it into 2018!
• Anyway, nowadays those data points that used to be surprising every few months come about once every ten minutes or so. Will CPI be one of them? It’s certainly been an…interesting…number over the past few months.
• The BLS has had to wrestle with collection issues, such as the fact that in the teeth of the crisis they didn’t want to be placing a burden on medical care professionals to respond to a survey. So measuring prices was difficult.
• And of course the BLS also recently had the issue with coding Unemployment, because we’ve never had a situation like this and so the book doesn’t explain what to do! CPI has some of those too.
• There was also a much greater dispersion than usual in prices collected, because of wildly different circumstances at each outlet. Lots and lots of craziness. But the net was that we were -0.10% on core in March, -0.45% in April.
• Here is one example, from this month, that will be important in Used Cars. The Mannheim index had a massive jump, while the Black Book index slipped slightly further. So how do you forecast CPI for Used Cars??

• It appears that while used car prices rebounded at the wholesale market, they didn’t at the retail level. I think that, and all of the rebound stories, are “yet.” But who knows what that means for this month.
• I think we ought to get a healthy rebound in Lodging Away from home, which has fallen 14% or so over the last couple of months. And Airfares. But maybe not until next month.
• Here’s the thing. From the top down and bottom up, it looks very likely that prices will be accelerating going forward. Clearly, everything is getting more labor-intensive and we’re re-onshoring cheap overseas production in some cases. And here’s the top-down case, which is M2.

• The rise in M2 is unprecedented, and while a near-term precautionary demand for money will depress velocity, the Fed is in a real corner when velocity rebounds, and it will.
• But that’s not today. Today the consensus forecast is for flat m/m figures on both core and headline. Food will be a big positive contributor, energy a negative contributor (probably) for another month. Net result: wild guesses.
• To me, it feels like we’re due for an upside surprise. I would guess Medical Care is due for something funky. But I don’t make forecasts in normal times; sure as heck am not going to do it NOW. Good luck folks.
• It’s almost creepy. Core CPI was very close to flat, at -0.06% m/m and 1.24% y/y. That’s ridiculously close to forecasts given all of the difficulties.
• I forgot to mention too that the range in forecasts was not all that wide either…there wasn’t anyone with a -0.3% or +0.3% forecast on core. Which is wild!
• Last 12 core CPIs:

• Food and Beverages was (only) +0.72% m/m, raising the y/y to 3.88% from 3.39%. I don’t normally focus on non-core items but this is one where we’ve seen massive moves. So I was surprised we didn’t see more.
• Here is the y/y change in food & beverages. Not at all bad yet. Food at home is +4.8% y/y, but still not as high as those prior peaks. More coming I am afraid.

• On to more interesting items. Used Cars and Trucks were -0.39% m/m, which weirdly raises the y/y figure to -0.37% from -0.75% last month. But that’s part of the weakness in m/m core. Black Book was closer, as it has been.
• But used car prices will come back, so get your deals while you can. Wholesale prices have largely rebounded to the pre-covid levels. Retail will get there, once people are shopping.
• Overall, core goods fell to -1% y/y from -0.9%, and core services to 2.0% from 2.2%.
• BTW used cars correction: -0.35% this month, not -0.39%, on the m/m. My error.
• On rents, Primary Rents were unchanged y/y at 3.49%. Owners’ Equivalent was approximately unch at 3.06% vs 3.07%.
• BUT Lodging Away from Home fell further. -1.53% m/m, bringing y/y to -15.06% from -13.91%. That’s a bit at odds with what I’ve seen personally, but a big reason for the weakness in core.
• Also airfares was -4.9% m/m, clearly at odds with what is actually happening to city-pairs prices. This must have something to do with when they collected the data, or perhaps there are fewer first class seats and that’s affecting the avg.
• Y/y the BLS says -29% fall in airfares, which itself doesn’t seem too crazy, so maybe this month is some kind of catch-up. But again, airfares are certainly going to rise – unless we simply forget about social distancing and start running full planes again.
• So on core, it seems the usual suspects again this month. Rents fine, airfares and used cars and lodging away from home big losses.
• How about Medical Care? m/m +0.49%, to 4.90% y/y from 4.81% y/y. Pharma flat, but y/y up to 0.93% from 0.78%.
• Doctor’s Services finally showed some life as doctors’ offices reopen (another place we’re going to see increases if they can take fewer patients, but maybe it’s not nice to do it right away). +0.65% m/m, to 1.80% y/y from 1.23%.
• But Hospital Services only +0.11% m/m, and the y/y declined to 4.86% from 5.21%. Again, that’s weird in a time of Covid. I think while the last couple of CPI reports were pretty clean, we’re starting to see some stale prices affect the numbers.
• I’m not saying that because of the overall result…flat core cpi m/m was about right. But it’s WHERE we are seeing some of these things that’s weird.
• Now, I totally buy Apparel at -2.29% m/m, -7.90% y/y. That makes total sense to me and less clear that turns into a positive number. We’re not going to start making apparel again in the US. I think we’ll get back to flat prices eventually.
• OK this is interesting. Alcoholic beverages is 1% of the CPI, but this is Alcoholic Beverages at Home since the other part doesn’t make sense. Note that last two peaks were around big recessions? Expect more upside here! Surprised it isn’t already higher.

• Biggest core declines on the month (annualized monthly change): Car Insurance -67%, Public Transportation -37%, Car/Truck Rental -34%, Women’s Apparel -30%, Men’s Apparel -29%, Lodging AFH -16.8%, Footwear -16%.
• Biggest gainers, other than Meat, Poultry, Fish, and Eggs (+55% annualized) and Dairy (+12.6%): Recreation (+11.1%) and Motor Vehicle Parts/Equipment (+10.6%) Guess if you’re not buying new cars, you’re fixing the old one.
• FWIW, Median is going to be very interesting this month. It’s probably going to be around +0.27% ish. Likely to be the highest since January. That’s yet another reminder this inflation ‘slowdown’ is ALL IN THE LEFT TAIL. Big drops in just a few categories.
• However, one of those left-tail items is not shelter. So, core ex-shelter is now the lowest since well before the GFC. We are nearing non-shelter deflation. Get ready for the agitated headlines.

• Again, worth remembering is that that dramatic picture is ALL IN THE LEFT TAIL.
• Hey, let’s talk about the Fed for a second and then I want to turn to Recreation. This number will not change – and actually, no number would – the Fed’s trajectory. They’re going to stay easy, easy, easy. Even when inflation signs emerge.
• IN FACT, this dip in prices will help the Fed ignore the acceleration, because they’ll say it’s just a rebound. But the key will be that the acceleration will NOT just be in the tail, bouncing back, but the middle of the distribution.
• So, the Recreation category (5.8% of CPI) rose 0.88% m/m, pushing y/y to 2.11% vs 0.94% previous. Larger jump than Food & Beverages.
• In the subcategories of Recreation, the biggest jump by far was in Other recreation services, which was +4.99% y/y versus +1.61% last month. Why?
• In the sub-sub-categories below Other recreation services, we have Admissions rising 3.63% vs 1.23%. But the BIG increase was “club memberships for shopping clubs, fraternal or other organizations, or participant sports fees”. +7.34% y/y vs +2.55%. Discuss.
• OK 4 pieces of CPI. Actually 5 today. First Food & Energy. Thanks to Food, not as bad by now as I’d thought we’d have been.

• Piece 2 is core goods. Apparel, e.g.. Not surprising we’re down here, although Pharma (only +0.9% y/y) continues to surprise me. Pharma will rise once we start onshoring APIs. In the meantime, core goods is weak, but not sure it gets much weaker.

• Core services. Again, polluted by lodging away from home and airfares. This will snap back over the next few months, because I don’t think Medical Care is about to plunge and it’s steadier than Lodging AFH and Airfares.

• Piece 4, which COULD be alarming: rent of shelter. But, of course, this is all Lodging AFH (I mistakenly put this in core services less ROS in my prior tweet!). So let’s look at piece 4a, that breaks out the stable part of rents.

• There is nothing surprising here happening to OER. And in fact, home prices seem to be holding up just fine and foot traffic has been increasing. In uncertain times, what’s better than your own home? If you expect deflation, you better find it here. And you won’t.

• 10y Breakevens today +3.5bps. That’s interesting, and it suggests people are looking past the current figures. But 10y Breaks are still at 1.28%, with implied core inflation well below 2% for a decade.
• But it’s still a really big bet that deflationary forces will win. And that seems increasingly unlikely.
• Breakevens are not as big a bet at 1.28% as they were at 0.94% when I wrote this: https://inflationguy.blog/2020/03/11/the-big-bet-of-10-year-breakevens-at-0-94/
• OK, that’s it for now. I look forward to the days when all of the one-offs are done. One last comment: if median CPI is in fact +0.27%, then y/y Median would rise. In fact, anything above 0.21% m/m would mean y/y increases from its current 2.70%…
• I will publish a summary of all these tweets later. Thanks for tuning in. Be sure to visit the website at https://enduringinvestments.com and tell me what you think about the new look.
• Oh, one more fun chart. Here is the Apparel series. Clothing prices in the US are now down to levels we haven’t seen since 1988. I can finally break out that old tie. Oh wait, it’s price not fashion.

Another month, another set of crazy figures from Airfares, Lodging Away from Home, Apparel, and Cars. Outside of those, there really haven’t been many big surprises. I guess it’s surprising booze inflation isn’t higher yet. But if we were entering into a deflationary period, we wouldn’t see core decelerating only because of left-tail events, and we wouldn’t see Median CPI accelerating. This really gives every sign of just being a set of one-offs that will pass out of the data before long and be replaced by the true underlying trend. Prior to COVID-19, that trend was a gradual but unmistakable acceleration in inflation, so in my view that’s probably the best outcome you can hope for if you are a bond investor: that we settle back to something like 3% in median inflation and 2.25-2.5% in core inflation. There is as yet no sign of the collapse in housing that we would need to usher in another Depression-like scenario, and for all the errors the Fed made back then the one they have not made this time, indubitably, is the error of failing to add enough liquidity. Indeed, the error they’ve made this time is that they have added far, far too much liquidity and there is no good way to remove it.

That isn’t this month’s story, and it isn’t this quarter’s story. Short-maturity TIPS, not surprisingly, trade at very low implied inflation rates even though energy prices have aggressively rebounded – right now, TIPS carry is awful and if you own a short TIPS bond you’re not looking at next year’s inflation. Beyond the front end of the TIPS curve, though, pricing of inflation-linked bonds relative to nominal bonds is almost comical. Yes, real yields are very low and it’s hard to love TIPS just for TIPS. I don’t understand, though, why TIPS aren’t currently beloved compared to all forms of fixed-rate debt. Some of it is indexed money, but I don’t understand why the indexed money is insisting on smashing into a wall. This will all become obvious eventually, and people will look back, and everyone will remember how they were very bullish on breakevens and can’t believe how everyone else messed up. And everyone will be an inflation expert.

Today’s figure doesn’t mean anything to the Fed, as I said before. Well before this all happened, Chairman Powell had effectively abandoned the inflation mandate. Late last year, he’d declared “So, I think we would need to see a really significant move up in inflation that’s persistent before we even consider raising rates to address inflation concerns.” And then, on February 11^th in front of the House Financial Services Committee Powell, in response to a question from Congressperson Ayanna Pressley (D-MA) about whether the central bank could ensure economic conditions such that “anyone who wants to work and can work will have a job available to them,” Powell responded that the Fed will ‘never’ declare victory on full employment. Not a word about inflation in his response. With Unemployment in the teens right now, I think we can safely say it will be a very long time before the Fed makes inflation its primary worry.

But, I think eventually they will.