A decline in the price of housing services has been at the center of the long-standing narrative dismissing the significance of this years long stickiness in inflation. Unfortunately, those hopes are less tenable than ever in this cycle. In April, housing experienced its highest month-over-month PCE increase since at least the beginning of 2025. This sticky inflation is unlikely to cool while housing inflation remains elevated.

Thus, the long-awaited rate cuts that new Federal Reserve Chair Kevin Warsh was supposed to deliver for the President seem quite remote. Financial markets do not even have a rate cut among the range of possibilities this year. The CME FedWatch tool shows the odds of a rate cut at less than 1% going all the way out to July, 2027. The odds of a rate HIKE push above 50% starting with the January, 2027 meeting (see the red circle in the upper right corner of the chart below).

Meanwhile, loose financial conditions per the Adjusted National Financial Conditions Index (ANFCI) suggest the case for rate cuts remains quite weak.

Bonds Push Gold to the Sidelines

Typically, this is the point where I celebrate gold as a good buy in the face of increasing inflation risks. However, the bond market woke up to increasing inflation risks after the war started. For example, a day after the iShares 20+ Year Treasury Bond ETF (TLT) broke down from a 4-month high on the first wartime trading day, SPDR Gold Shares (GLD) also broke down.

Both TLT and GLD have been in downtrends ever since the war started (interest rates increase when bond prices decrease). While TLT printed a sharp bottom last week thanks to a sudden drop in oil prices, gold continued to fall.

As long as financial markets expect the Fed’s next move to be a rate hike, I expect GLD to trade poorly. Right now, GLD is precariously perched at an important support formed from the convergence of the 200-day moving average (DMA) (the blue line above) and GLD’s former all-time high from October, 2025. GLD experienced an impressive bounce off the horizontal support line in late March. However, given the definitive failure at resistance at the 50DMA (the red line), I expect the current tepid bounce to give way to continued weakness in GLD.

Thus, I am staying away from buying back into GLD until it can achieve a breakout above 50DMA resistance. In the meantime, I continue to accumulate TLT in anticipation of a day off in the future when yields come down definitively.

Be careful out there!

Full disclosure: long TLT

The post From Sticky to Streaky, Inflation Looms Larger appeared first on Inflation Watch.

As the stock market has careened into a bear market amid growing economic anxieties and uncertainties, financial markets have started to return to the old standby to save the day: interest rate cuts from the Federal Reserve. Expectations have definitively brought forward the timing for the next rate cut from July to June. The table below the chart of the market’s target probabilities for the June Fed meeting show the change in probabilities starting one month ago. The odds for the Fed maintaining its target rate range at 4.25% to 4.5% have plunged from 49.6% a month ago to 18.3% a week ago and 18.8% yesterday. While those odds moved slightly higher to 23.1% as of the time of writing, the odds for a 25 basis point cut still increased from 56.2% to 58.1% from yesterday to now.

Of course, if the market continues to roil and sink deeper into a bear market, financial markets may become too restless with a June timetable. However, as we saw last year, just the expectation for imminent rate cuts can be enough to keep spirits lifted in financial markets.

Even if the Fed wants to placate markets and play its modern role as market hero, consumer’s rising expectations for inflation should force the Fed to remain patient and measured. March’s preliminary read for the Surveys of Consumers from the University of Michigan showed yet another increase for both short-term and long-term inflation expectations. There is already a definite upward trend in long-run expectations and short-run expectations soared. From the University of Michigan:

“Year-ahead inflation expectations jumped up from 4.3% last month to 4.9% this month, the highest reading since November 2022 and marking three consecutive months of unusually large increases of 0.5 percentage points or more. This month’s rise was seen across all three political affiliations. Long-run inflation expectations surged from 3.5% in February to 3.9% in March. This is the largest month-over-month increase seen since 1993, stemming from a sizable rise among Independents, and followed an already-large increase in February.”

In parallel with the troubling trends on inflation expectations, consumer’s expectations for more unemployment are soaring. Take together, consumers are increasingly fearing a stagflationary economic environment.

Thus, the Fed faces maximum pressure. No matter what the Fed decides or says in next week’s decision on monetary policy, major disappointment and/or jitters are bound to rise from some significant portion of observers. In turn, elevated volatility could remain elevated and translate into more pressure on stock prices. Either the Fed will be taken to task for changing a re-ignition of realized inflationary pressures, or the Fed will be criticized moving too slowly to stave off a recession.

For now volatility is calming down as fears of a government shutdown subside…

…even as one of my favorite investments and trades, SPDR Gold Trust (GLD), breaks out to fresh all-time highs.

Be careful out there!

Full disclosure: long VXX put options, long GLD shares and call spread

The post Maximum Pressure for the Federal Reserve appeared first on Inflation Watch.

Source: U.S. Bureau of Labor Statistics, Consumer Price Index for All Urban Consumers: All Items in U.S. City Average [CPIAUCSL], retrieved from FRED, Federal Reserve Bank of St. Louis, July 11, 2024

The chart above shows that the CPI stayed within a tight range of change between 0% and 0.5% until June’s reading. That pleasurable drop into negative territory for the first time since May, 2020 was enough to cause major shifts in financial markets. Investors quickly rotated out of growth stocks like big cap tech and bought up interest rate sensitive stocks and the “cheap” stuff that has been left for dead.

The iShares Russell 2000 ETF (IWM) soared 3.6% to a 28-month high, a long overdue and bullish breakout.

The iShares U.S. Home Construction ETF (ITB) surged 6.2%, quickly defied a recent downgrade from Citigroup that seemed poised to send ITB into an eventual bear market, and shook off the blues from a busted spring home selling season.

The iShares U.S. Real Estate ETF (IYR) gapped up 2.8% and almost finished recovering its losses for the year.

Even the regional banks came alive. The SPDR S&P Regional Banking ETF (KRE) jumped 4.2% and almost got back to flat for the year.

The end result of these strong gains and reversals was an abrupt improvement in market breadth. My favorite technical indicator, the percentage of stocks trading above their 50-day moving averages (DMAs), or what I call AT50 for short, climbed an astonishing 13 percentage points. A subtle downtrend came to an abrupt and definitive end.

This shift continues a string of notable divergences in market breadth. This divergence is a bullish contrast to the notable declines in the S&P 500 (SPY) and the NASDAQ (COMPQ) on the day, 0.9% and 2.0% respectively. Both major indices suddenly look toppy again.Once again, they printed what technical traders call bearish engulfing patterns, sometimes called major reversals. Only the surge in market breadth stops me from getting bearish (I remain neutral on the stock market per the last label in the S&P 500 chart below).

Now all the market needs is an actual rate cut from the Fed to give the celebration in market breadth some lasting power. As I noted when making the case to buy into the iShares MSCI BRazil ETF (EWZ), the market has recently sniffed out an imminent launch of a rate cutting cycle from the Federal Reserve. July 11th is the day the market practically forced the Fed’s hand. The odds of a rate cut for September jumped from 69.7% to 86.4%. The odds for staying right where they are dropped a lot closer to zero.

Source: CME FedWatch Tool

Now Back to the Inflation Story

While the celebrating over a negative handle on the headline CPI was market-moving, the headline CPI just continued an easily recognizable trajectory. Core CPI increased from the previous month and was up 3.3% year-over-year; both increases were lower than the previous month. The trend continues downward. Thus there was really no new news in the data. The trend is down, the trend is still the friend of the consumer.

U.S. Bureau of Labor Statistics, Consumer Price Index for All Urban Consumers: All Items Less Food and Energy in U.S. City Average [CPILFESL], retrieved from FRED, Federal Reserve Bank of St. Louis, July 11, 2024.

I earlier complained in “Fed’s Powell Avoids the Obvious: Inflation and Interest Rate Forecasts Make Little Sense” that Powell’s insistence that the Fed would cut once was inconsistent with a forecast indicating no progress on inflation. The core CPI continues to suggest that (overall) inflation’s days are dead for now.

Epilogue: TLT

The soft inflation numbers naturally drove bond yields down. The iShares 20+ Year Treasury Bond ETF (TLT) jumped 1.0% after fading from its highs of the day (TLT moves opposite the direction of yields). I used this opportunity to buy a fresh tranche of put options. I like fading TLT because the crushing levels of debt issuance periodically force yields higher and send TLT lower. Moreover, the economy is still able to generate enough inflation scares to send bond yields higher. Having said that, I have shifted the trade from a downtrend channel (shown in blue below) to a horizontal trading range (shown in black below). The first trade off this new presume range worked well as I took profits right at the top of the previous downtrend channel.

Of course a rate cut from the Fed could alter this trade all over again.

Be careful out there!

Full disclosure: long ITB, long SPY puts, long QQQ calendar call spread, long TLT put options, long EWZ

The post Now the Market Just Needs the Rate Cuts appeared first on Inflation Watch.

Nevermind that a read hotter than consensus has little impact on the current trend. The chart below from the U.S. Bureau of Labor Statistics shows that even as core CPI (all items less food and energy) is flattening out a bit (the red line), the “sticky” shelter component of inflation is still hurtling downward (the purple line).

With the trend still favoring the death of inflation, I think of “sticky” as a reference to people’s impatience with an inflation component taking too long to converge with the overall average inflation level. The CPI report highlighted the relative stubbornness of shelter inflation:

“The shelter index increased 0.6 percent in January, and was the largest factor in the monthly increase in the index for all items less food and energy. The index for owners’ equivalent rent rose 0.6 percent over the month, while the index for rent increased 0.4 percent. The lodging away from home index increased 1.8 percent in January…The shelter index increased 6.0 percent over the last year, accounting for over two thirds of the total 12-month increase in the all items less food and energy index.”

The bubble chart below from the U.S. Bureau of Labor Statistics shows the outsized influence of services less energy services on total inflation (the large purple bubble). This major component includes shelter. Its relative importance of 60.9 dwarfs the relative importance of all other major components of inflation.

Given the angst directed at the shelter component of inflation, I looked at what the National Association of Home Builders (NAHB) had to say about this CPI report. The industry group provided a reassuring conclusion: “the NAHB forecast expects to see shelter costs decline further in the coming months.  This is supported by real-time data from private data providers that indicate a cooling in rent growth.” So while the housing price picture is mixed with existing homes on the uptick and new homes on the downtick, overall rents should continue a cooling pace as expected.

Unfortunately for those traders and investors buying stocks and bonds in anticipation of rate cuts, this reminder of inflation’s stickiness pushed out expectations for the first rate cut from the Federal Reserve. Over-eager financial markets pushed out the first rate cut from May to June. This is a bitter pill to swallow for those who started buying stocks and bonds late last year in anticipation of a rate cut in March (because the Fed admitted to inflation’s death of course). The chart from the CME FedWatch Tool shows how the odds favoring a May rate cut immediately evaporated.

The Fizzle and Sizzle in Financial Markets

Interestingly, currency markets and the bond market have been moving counter to the rallies in the S&P 500 (SPY) and the NASDAQ (COMPX). The 2024 rally in the U.S. dollar index (DXY) has taken the index ABOVE the point where currency traders dumped the dollar in the wake of inflation’s death. The chart below from Tradingview.com shows a bullish breakout for the dollar last month above its 50-day moving average (DMA) (the red line) and a successful test of the trend line as support earlier this month.

The dollar’s rally complicates my bullish trades on the Canadian dollar but also provides my latest opportunity to fade USD/CAD (Invesco CurrencyShares Canadian Dollar Trust (FXC)) within the trading range. I am net long the U.S. dollar by being short EUR/USD (Invesco CurrencyShares Euro Currency Trust (FXE)).

Excluding a sharp countertrend rally at the end of January, iShares 20+ Year Treasury Bond ETF (TLT) has sold off most of 2024.

These trends further reinforce the notion and fear that perhaps earlier rate cut expectations were indeed premature. After the market’s pullback (the S&P 500 lost 1.4% and remains in an uptrend) will stocks also concede the point or will they return to ignoring deteriorating market breadth and other signs of caution in the stock market?

The volatility index (VIX) may have already blown off enough steam to soothe the groans of the bulls…for now. Note carefully how the VIX stopped going down this year and thus has an ever so slight uptrend going…

Be careful out there!

Full disclosure: net long U.S. dollar

The post From Inflation Fizzle to Sizzle appeared first on Inflation Watch.

Monetary Policy Question and Answer with an AI

The following question and answer with the generative AI in NotebookLM is like a poor man’s substitute for the Fed’s official Q&A session. Each section of dialogue below starts with a quote from Fed Chair Jerome Powell, followed by my question, and then NotebookLM’s response. All quotes are verbatim with some caveats on NotebookLM’s response in curly brackets.

Powell: “We are committed to achieving a stance of monetary policy that is sufficiently restrictive to bring inflation sustainably down to 2 percent over time, and to keeping policy restrictive until we are confident that inflation is on a path to that objective.”

Me: “Does Powell express any confidence that inflation is on the path to meeting its objective of 2%?”

NotebookLM: “No, Powell does not express any confidence that inflation is on the path to meeting its objective of 2%. He says that the Fed will continue to raise rates until inflation is under control, and that the two conditions that would lead the Fed to stop raising rates are (1) if inflation is on a path to the Fed’s 2% target and (2) if the labor market is continuing to broadly cool off and achieve a 4% unemployment rate. He does not say that either of these conditions are likely or happening now.” {That second condition is not directly stated in the transcript. NotebookLM must have picked this up from an external commentary. A more accurate characterization would be to drop the specific, quantified unemployment target}.

Powell: “We are attentive to recent data showing the resilience of economic growth and demand for labor. Evidence of growth persistently above potential, or that tightness in the labor market is no longer easing, could put further progress on inflation at risk and could warrant further tightening of monetary policy.”

Me: “What evidence does Powell cite to demonstrate that recent data show the resilience of economic growth and demand for labor?”

NotebookLM: “Powell cites the following evidence to demonstrate that recent data show the resilience of economic growth and demand for labor:

• GDP growth: Powell cites the strong third quarter GDP figures as evidence that the economy is continuing to expand at a strong pace.
• Employment: Powell notes that the labor market remains very strong, with job openings and labor demand still clearly remaining very strong.
• Inflation: Powell acknowledges that inflation is still high, but he argues that the recent data show that inflation is beginning to moderate.”

Powell: “As for the Committee, we are committed to achieving a stance of monetary policy that’s sufficiently restrictive to bring inflation down to 2 percent over time. And we’re not confident yet that we have achieved such a stance.”

Me: “Does the lack of confidence in achieving a sufficiently restrictive monetary policy leave open the possibility for future rate hikes?”

NotebookLM: “Yes, the lack of confidence in achieving a sufficiently restrictive monetary policy leaves open the possibility for future rate hikes.” {The rest of the response provided an incoherent timeline of Fed action}

Powell: “…the way we’re going to be going into these future meetings is to be just determining the extent of any additional further policy tightening that may be appropriate to return inflation to 2 percent over time” (Powell later reemphasized “it’s fair to say that’s the question we’re asking is, should we hike more”)

Me: This statement suggests that the Federal Reserve has a bias toward hiking rates again. What do you think? Explain your reasoning.

NotebookLM: “Yes, Powell’s statement suggests that the Federal Reserve has a bias toward hiking rates again...However, it is important to note that Powell also said that the Fed will “be humble” in its approach to raising rates, and that it will “listen carefully” to the data. This suggests that the Fed is not committed to a specific path for rate hikes, and that it will be willing to adjust its plans if necessary.” {Rest of answer repeated incoherent timeline even after I asked for a different explanation}

Powell: “the Committee is not thinking about rate cuts right now at all. We’re not talking about rate cuts, we’re still very focused on the first question, which is; have we achieved a stance of monetary policy that’s sufficiently restrictive to bring inflation down to 2 percent over time, sustainably? That is the question we’re focusing on. The next question, as you know, will be for how long will we remain restrictive?”

Me: “How would you assess the odds of a rate cut anytime soon based on this comment and the rest of the transcript?”

NotebookLM: “The odds of a rate cut in the near future are low.

• Powell said that the Committee is not thinking about rate cuts right now at all.
• The Committee is focused on bringing inflation down to 2 percent sustainably.
• The Committee will consider a rate cut if inflation comes down and remains low for an extended period of time.

However, it is important to note that the Committee is also considering other factors, such as the strength of the economy and the labor market. If the economy slows down or the labor market weakens, the Committee may be more likely to consider a rate cut.”

I selected quotes that I thought were most likely to produce some insight into the market’s excitement over the prospects for monetary policy. So just to be thorough, I asked NotebookLM one last question: “Is there anything in this transcript that even hints at the possibility for easier monetary policy in the near future? What about prospects for an end to rate hikes? Explain your reasoning only using content from this transcript.”

NotebookLM concluded: “There is no indication in this transcript that the Fed is considering easier monetary policy or an end to rate hikes.” Its explanation was a repeat response to my previous question.

The Persistent Longing for Easier Monetary Policy

With just two months left in the year and earnings season nearing an end, eyes and prognostications turn to 2024. Year-to-date performance remains positive but the market’s three most dangerous months of the year stained market sentiment. Thus, the persistent longing for easier monetary policy is taking on a new urgency. A recent example came from Goldman Sachs (GS) in predicting a strong year for IPOs in 2024. The main reason for the optimism? Rate cuts! From the Yahoo Finance article “The ‘real IPO reopening’ is coming in 2024: Goldman Sachs“:

“Bruun’s case for IPOs to reemerge stems from a core stance repeated throughout Goldman’s 2024 outlook roundtable on Tuesday: The Federal Reserve will cut rates in 2024. And history says that’s usually an opportune time for the IPO market.

‘When expectation moves such that people are anticipating rate declines and are starting to see rates come down, that’s usually when IPOs open up,’ Bruun said.”

This kind of persistent longing for easier monetary policy is likely to pervade financial markets as the assumption of an end to rate hikes takes deeper root in market sentiment and psychology. If rate hikes have ended then, logically, rate cuts must be imminent.

Still, the Fed will also persist in doing what it can to prevent the market from getting ahead of the Fed’s desire to keep driving inflation to its 2% target. I fully expect Fed jawboning in coming weeks and months to do its best to work against the notion that easier monetary policy is on its way soon. Currently, Fed fund futures do not anticipate any more rate hikes, and the first rate cut comes in June. Both projections are the exact same as they were before the November 1st meeting. Thus this lack of change still has me scratching my head about a renewed excitement over the prospects for monetary policy. From the CME FedWatchTool (the blue boxes indicate the market’s projection for the most likely target for the Fed’s interest rate range the given meeting date in the first column):

The S&P 500

Finally, here is a close-up of the daily trading action in the S&P for perspective on the scale of the market’s recent excitement. Market breadth over this time period went parabolic. (image from TradingView.com)

The post Why the Excitement? A Q&A on Monetary Policy with Generative AI appeared first on Inflation Watch.

• Starting in 2019: The Federal Reserve warned Silicon Valley Bank about risks in the bank.
• 2021: “The Fed identified significant vulnerabilities in the bank’s containment of risk, but the bank did not rectify the weaknesses.” Ironically enough, one of the six fines issued to SVB included “a note on the bank’s failure to retain enough accessible cash for a potential downturn.”
• July, 2022: a full supervisory review revealed the bank as “deficient for governance and controls.”
• Fall 2022: the Federal Reserve of San Francisco met with “top officials at the bank to address the lack of accessible cash and the potential risks posed by rising interest rates.”

In other words, tight monetary policy was not the root problem of the bank’s problems. Tighter monetary conditions finally forced the issue of disciplining the bank. Tighter monetary policy is supposed to mop up excesses in the economy, and Silicon Valley Bank is starting to look like yet one more egregious example of the excess enabled by the prior era of easy money. It will be interesting to see whether the Fed’s review of its regulatory supervision includes claims that it lacked the authority to force SVB to change its ways.

The Fed Gives Us What We Want

Regardless, as I continue to see blame heaped on the Fed for this latest episode of financial instability, I have surprisingly adopted a more sympathetic view of the Fed’s work. The Federal Reserve has a near impossible job. It seems every major change in monetary policy sets the seeds for the next financial drama. Every financial drama raises the Fed’s prominence yet higher as a centralized economic planner, never able to return to the background of a free market. The Fed now must constantly tinker with interest rates with no clear terminal point. In particular, the economy has set up the Fed to bias towards keeping monetary policy as accommodative as possible for as long as possible. The Fed gives us what we want: policy that supports higher asset prices from stocks to real estate.

The index of financial conditions, as measured by the National Financial Conditions Index (NFCI), since the Great Financial Crisis (GFC) shows extended periods of very easy financial conditions. It is remarkable how little time the economy has been stuck with a positive index, or even a component on the positive side of danger…even in the aftermath of the economic shutdowns from the pandemic.

The Fed’s balance sheet is an even better example of how the Fed gives us what we want in the form of accommodative monetary policy. The Fed was never able to reduce its balance sheet after the GFC. The current tightening cycle barely put a dent in the Fed’s balance sheet. I have a sneaking suspicion that the Fed will never get its balance sheet back to pre-pandemic levels either. Note how the balance sheet ticked up as of last Wednesday in the wake of the rescue programs rolled out to backstop failing banks.

Board of Governors of the Federal Reserve System (US), Assets: Total Assets: Total Assets: Wednesday Level [RESPPANWW], retrieved from FRED, Federal Reserve Bank of St. Louis, March 21, 2023.

Before the GFC, this kind of balance sheet expansion was considered unthinkable. Surely, such a growth in the balance sheet would cause dangerous inflation levels. Given the on-going duration and size of this expansion, I am guessing economic theories will slowly but surely normalize the existence of this balance sheet. Yet, the longer this largesse continues, the more the economy will depend on sustaining these high levels. Thus, the economy will remain vulnerable to instability whenever economic conditions force the Fed into tightening policy. (Recall how the previous tightening cycle moved at a snail’s pace but still eventually forced the entry of a “Plunge Protection Team” to put a floor under the stock market).

What We Want Is Not Free

In a July, 2022 interview on Bloomberg’s Odd Lots (starting at the 14:35 point), famous short-seller Jim Chanos presciently claimed (emphasis mine):

“The one thing people are not prepared for is interest rates resetting meaningfully higher…It just hasn’t happened in most investors’ lifetimes…the idea that actually interest rates are not going to be 2 or 3% for the foreseeable future is going to be hard for a lot of investors to deal with. If we go back to what I would think are more reasonable rates based on what we’re seeing in the economy…this market will not be able to handle 5 or 6% 10-year. It just won’t. So many business models that we look at are extremely low return on invested capital because capital has been so plentiful for the past 12 years.”

The subtext here is that the Fed’s bias has been to leave monetary policy as accommodative as possible for as long as possible. Deflation was the great imperative chasing the Fed into monetary corners. The response to the pandemic was the logical conclusion of this policy as the Fed decided it had the luxury to keep driving unemployment ever lower by holding rates lower for longer. The economy appeared to be in another era where liquidity and massive stimulus could be conjured up for free. The pandemic’s inflationary pulse eventually turned the tables. What we want can actually be quite costly.

Thus, the Fed finds itself in a new trap. I feel for the Fed, but I don’t blame them…we prefer easy money…and many eagerly await the Fed getting disciplined back into cooperation by the Panic of 2023. The Fed Fund futures suddenly expect a long string of rate cuts to follow peak rates in May. I sure hope inflation cooperates as well!

Source: CME FedWatch Tool as of March 21, 2023

A Golden Epilogue

Gold received a new burst of life thanks to the Panic of 2023. As soon as the Fed blinks, I expect gold to rally further. I am keeping the buy button close as we go into the next several decisions on monetary policy starting with March’s. The Sprott Physical Gold Trust ETV (PHYS) broke out to an 11-month high. Today’s 2.0% pullback from over-extended price action looks like it is setting up the next buying opportunity.

Source: TradingView.com

Be careful out there!

Full disclosure: long GLD

The post Don’t Blame the Fed: The Fed Gives Us What We Want appeared first on Inflation Watch.

The Fed’s aggressive anti-inflationary posturing is apparently finally having a positive impact on inflation expectations. Source: NY Federal Reserve.

I would caution anyone who wants to declare victory from the return of 3-year-ahead expectations to pre-pandemic levels. Inflation expectations were so well-contained for so many years, it is hard to project the dynamics of going from high to normalized expectations. For example, how long does the Fed need to continue its aggressive posture to maintain this momentum? Moreover, if the 1-year ahead expectation remains predictive, the Fed will have to stay on course tightening policy into 2023 as the Fed Fund Futures currently expect per the CME FedWatch Tool.

The market keeps pushing expectations for peak rates higher and higher in 2023. Suddenly, the market thinks the Fed is on track to reach a 5.0% to 5.25% range but then quickly back down by year-end.

The apparent predictive nature of the 1-year ahead expectation is particularly notable. Both the 1- and 3-year-ahead measures increased steadily a few months into the pandemic. A large gap opened starting in June, 2021 at the same time that the Federal Reserve was convinced that inflation was transitory. The comfortable math of “base effects” allowed the Fed and many others to essentially ignore the soaring inflation expectations. Clearly, the average consumer agreed with me and did not believe the story. Expectations just kept climbing for an entire year. It is only in the last 2 months – in the wake of a Fed that is suddenly consumed with anti-inflation religion – that inflation expectations took a notable downward turn. So while the big drop in August is encouraging, the Fed will likely need to maintain the psychological pressure for some time to keep a lid on expectations.

In turn, this necessary pressure could keep a lid on the stock market for a while. The S&P 500 (SPY) closed the week perfectly testing the line that defines a bear market (a 20% decline from the all-time high). We might have to get accustomed to the index pivoting around or near this important, psychological line.

The press release accompanying the NY Fed’s report included several additional key points indicating the worst of inflationary pressures could be in the rearview mirror if the Fed maintains the pressure.

• Median five-year-ahead inflation expectations declined to 2.0% from 2.3%.
• Median home price expectations declined by 1.4 percentage points to 2.1%. This drop represents a dramatic decline from April’s 6.0% and is the lowest reading since July, 2020.

On the other hand, despite inflationary pressures decreasing and respondents reporting declining access to credit, the NY Fed reported “median household spending growth expectations increased by 1.0 percentage point to 7.8%. The increase was driven by those with a high-school degree or less.” At the same time, respondents reported higher odds of missing a minimum debt payment, households felt better about their current and prospective financial condition. Net-net, these numbers tell me that the Fed’s posturing and policy have managed to bring some relief to pricing pressures without crushing economic expectations. These cross-currents will likely resolve in yet unexpected ways.

Be careful out there!

The post Softening Inflation Expectations Are the Beginning Not the End of the Fed’s Hawkish Posturing appeared first on Inflation Watch.