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.

Inflation Drivers

Inflation remains above target and is being driven by identifiable, but still unresolved, forces. Tariffs account for a significant share of core inflation and are taking longer than expected to pass through the economy. According to Powell, goods inflation has shifted from being flat or negative before tariffs to running around 2%, with tariffs contributing approximately 0.5 to 0.75 percentage points to the ongoing inflation overshoot.

Inflation has now run above target for five years, increasing concern as a new price shock from war has pushed oil prices higher. Powell acknowledged that the war against Iran has pushed up near-term inflation expectations. He also cautioned that the size and duration of oil’s impact on inflation is uncertain.

Powell expressed frustration with the stickiness of core non-housing services inflation. The labor market is no longer generating inflationary pressure yet services inflation has not declined accordingly.

The added uncertainty from war and oil reduces confidence in any forecasts. Powell acknowledged the lack of confidence behind them, noting that participants are effectively making estimates without strong conviction. He quipped that “you gotta write something down.” He even shared that someone on the FOMC joked that “This is one of those SEPs [Summary of Economic Projections], where if we were ever to skip an SEP, this would be a good one.”

Powell summarized the situation plainly: “the thing I really want to emphasize is that nobody knows.”

(Uncertain) Economic Backdrop

Still, Powell insisted that the broader economy remains resilient, with steady growth and stable unemployment. Longer-term inflation expectations remain anchored near 2%, which continues to provide an important foundation for policy.

The current SEP reflects low conviction and high uncertainty. Inflation’s trajectory will depend on how tariff effects resolve, how energy prices evolve, and whether services inflation begins to improve.

In the meantime, the Fed as a group still has core PCE (Personal Consumption Expenditure) inflation gliding comfortably to the Fed’s target of 2% by 2028 despite the recent updrift in the Fed’s preferred inflation gauge. Thus, the Fed remains confident in the path for the economy despite the lack of conviction in the forecasts.

The post Powell: Inflation Is Uncertain and the Forecasts Lack Conviction appeared first on Inflation Watch.

Services was the biggest driver of December’s core PCE with a 3.5% year-over-year jump. Services has been a consistent contributor to inflation’s stickiness. The biggest components within services were housing and utilities, recreation services, and financial services and insurance. Each of these components were also top drivers of services PCE inflation a year ago, so I fully expect them to continue to remain elevated…and worrisome.

Why Does the Fed Prefer PCE over CPI?

The general public and financial media pay much more attention to the CPI than the PCE. So it is easy to understand how a hot PCE number got little attention among the tariff headlines. However, the Fed cares more about PCE because it is a more comprehensive measure of inflation than the CPI. The PCE relies on business surveys that include expenditures made on behalf of consumers. In an explainer, the BEA provides the following example:

“For example, the expenditure weights for medical care services in the CPI are derived only from out-of-pocket expenses paid for by consumers. By contrast, medical care services in the PCE index include those services purchased out of pocket by consumers and those services paid for on behalf of consumers—for example, medical care services paid for by employers through employer-provided health insurance, as well as medical care services paid for by governments…”

This distinction is particularly important since the Fed spends a lot more time talking to businesses (like in the Beige Book) than to consumers.

Gold probably got both messages: sticky/heating inflation and fresh economic chaos. The SPDR Gold Shares (GLD) bounced perfectly off support at its 20-day moving average (DMA) (the dashed line) and followed through with a 2.7% gain to start the trading week.

Be careful out there!

Full disclosure: long GLD calendar call spread

The post The Fed’s Favorite Inflation Measure Leapfrogs the CPI appeared first on Inflation Watch.

Still, after the dust settles on this meeting, I fully expect the Fed to stay the course with a rate cut in December. Powell’s statements belie a Fed that is both gradually (some reluctantly?) accepting the case for looking through inflationary pressures and getting incrementally more worried about the labor market.

Division Translates Into Balking

Powell acknowledged strong disagreements among the Committee members. He teased a reveal in the upcoming minutes from the meeting, but the Fed vote says plenty. Recent appointee Stephen Miran unsurprisingly wanted a 50 basis point cut in a repeat of his dissent in the September meeting. Kansas City Fed governor Jeffrey R. Schmid delivered a dissent at the other end with a vote for leaving rates unchanged. Thus, it is easy to imagine the Fed currently holds a broad enough range of opinions on the direction for monetary policy to cause a pause in December.

In response to a reporter’s question about division in the Fed, Powell pointed out that Committee members have different forecasts and different levels of risk tolerances which come through in their speeches. Most importantly, Powell revealed that “there is a feeling in some we should wait.” Since there was just one vote for waiting during the latest meeting, I assume Powell referred to waiting instead of cutting in December – a not so subtle hint that the Fed as a group may already prefer not to cut in December.

The Case for A December Cut Still Looms

However, the hesitancy to cut in December directly contradicts Powell’s assessment of the economic situation. Powell noted that the current rate is above the neutral rate (“wherever it is”). Thus, policy is technically restrictive. Importantly, Powell ascribed the cooling in the labor market and the economy to restrictive policy. So if the Fed has truly adopted the mission to focus on addressing the downside risks in the economy, the Fed must stay biased to cut rates. At this point, the Fed will have a very difficult time explaining how it can “stand by” and watch a weakening economy and labor market.

While there remains upside risk to the Fed’s inflation mandate, Powell makes a weaker and weaker case every meeting that the Fed is truly concerned about that risk. He said plenty to indicate that the prospects for inflation are contained and even tame. Here were his main points on inflation:

• Most measures of long-run inflation expectations remain consistent with the Fed’s 2% inflation target.
• Services inflation is coming down
• Higher tariffs are pushing up inflation as one-time increase in the price level (the base case)
• The core PCE (personal consumption expenditures, the Fed’s preferred measure of inflation) without tariffs would be 2.3% or 2.4% without tariffs, not far from the 2% target.
• The tariff-driven increase in goods prices is happening within the longer-term context of goods deflation.

Thus, once the base case of a one-time effect laps the inflation readings, the Fed should be comfortably close to its target.

While Powell reiterated that the Fed is determined to make sure that the inflationary impact of tariffs is indeed a one-time increase in the price level, the overall picture painted by Powell makes inflation look well-contained. The implied upside risk from the uncertainties in tariff policy hardly seem noteworthy in Powell’s updated narrative.

On the other hand, Powell claims there is “no significant deterioration” in the economic data. While Powell pointed out that the downside risks to employment have risen, he did not express any concern for the highly publicized mass layoffs from big companies like Amazon.com (AMZN) and United Parcel Services (UPS). In response to a question about these layoffs, Powell only said that the Fed is watching these developments, and the layoffs do not yet show up in the initial claims data (of course not – these layoffs are recent announcements).

Overall, Powell sums up the labor issue as low hiring and low firing in the context of immigration policies shrinking the labor supply and a cyclical drop in the participation rate in the workforce. When asked how then will rate cuts help the job market, Powell responded that cuts will make sure the “labor market doesn’t get worse.” Upon hearing that explanation, I felt tingles of recessionary risks.

Inflation Warnings from Overseas?

While Americans are mostly focused on the inflation risks from tariffs, inflation is also proving stubbornly sticky in other major economies who are not at war with the global economy. For example, with inflation at 3.8% in the United Kingdom, the Bank of England is further away from its 2% inflation target than the Federal Reserve is from its target. In its last letter explaining the on-going inability to hit the target, the BoE reported:

“The recent increase in CPI inflation has owed largely to food prices and administered prices, including water bills and Vehicle Excise Duty. A reduction in total labour cost growth also appears to have been delayed by the increase in employer National Insurance Contributions (NICs) and pay growth in sectors with a large share of employees at or close to the National Living Wage (NLW).”

Yet, the BoE expects this year’s inflation increase to peak in September. The combination of a weakening labor market and restrictive policy is expected to help push inflation toward the 2% target next year. This is the UK version of hopeful monetary policy. The BoE just made its last rate cut in August, going from 4.25% to 4.0%. The policy rate was left unchanged in the last meeting.

Earlier this week, inflation in Australia hit its highest point in over a year. With inflation now above the Reserve Bank of Australia’s target band of 2-3%, the RBA will likely need to put a pause on its easing cycle. The Australian Bureau of Statistics identified housing, recreation and culture, and transport as the main drivers of inflationary pressures. A likely pause in easing further strengthened my case to stay long the Australian dollar (FXA).

I am now on heightened alert for sticky inflation becoming a global problem that justifies an extended run for the debasement trade.

A Pause in the Debasement Trade

As the Fed expresses hesitancy about cutting rates again in December, the debasement trade took a major pause going into the Fed meeting, perhaps in anticipation of a less dovish Fed. Given I think the Fed will feel compelled to proceed with cuts in December, I consider the pause in the debasement trade to be even more temporary than the inflationary pressure from tariffs. I have treated this sharp pullback as the buying opportunity I have (mostly) patiently waited for. When parabolic rallies finally lose steam, the pullbacks are often swift and steep. I am looking for support to hold for the SPDR Gold Shares (GLD) by the $350 level where the 50-day moving average (DMA) (the red line in the chart below) awaits testing.

Bond yields understandably spiked higher in response to the Fed’s balk on rate cuts. However, I am no longer interested in trying to fade rallies in the iShares 20+ Year Treasury Bond ETF as I now accept that the bond market’s overall trajectory is to worry much more about imminent economic weakness than lingering inflationary pressures.

The bond market is giving the Fed a green light for rate cuts. Thus, today’s balking should gradually transition to acceptance in the coming weeks.

Be careful out there!

Full disclosure: short GLD put, long GLD calendar call spread, long UPS, long AMZN put spread

The post Powell Balks At the Next Step of Hopeful Monetary Policy appeared first on Inflation Watch.

In his speech at the annual Jackson Hole confab, Powell acknowledged that “with policy in restrictive territory, the baseline outlook and the shifting balance of risks may warrant adjusting our policy stance” (emphasis mine). In normal times, with this ever so slight tweak in Powell’s inclinations and probabilities coming at the end of a long explanation of the balance of risks to inflation, employment, and the economy, this concession could be interpreted as another tease in the on-going suspense and fight over rate cuts. Instead, a stock market ever more eager for rate cuts built a temple from a single stair step and responded with one of the biggest expansions in market breadth that I have ever seen.

Maintaining high odds of a September rate cut will effectively force the Fed to cut. However, if Powell stays on message – “monetary policy is not on a preset course” – then the September rate cut could easily lead to a major disappointment. The Fed’s voting majority may not be ready to promise a sustained rate cutting cycle because inflation remains a nagging problem for the Fed.

Even before the tariff drama, trauma, and noise, inflation was proving itself sticky and stubborn. Now, core CPI (Consumer Price Index) and core PCE (Personal Consumption Expenditures), the Fed’s preferred inflation measure, look like they have bottomed. Core CPI has even started heading upward largely thanks to a lift in services inflation. As a result, not only is the Fed looking to cut rates well short of its 2% (core PCE) target but also just as inflation’s downtrend is taking an extended pause.

Source: U.S. Bureau of Economic Analysis, Personal Consumption Expenditures Excluding Food and Energy (Chain-Type Price Index) [PCEPILFE], retrieved from FRED; 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, August 25, 2025.

A suddenly very hot Producer Price Index (PPI) from July promises that subsequent CPI reads will not deliver inflation relief.

Moreover, tariff-driven inflation is already showing up both in the anecdotes from business leaders, earnings reports, and the Fed’s own research. Moreover, even though the Fed Funds rate is still in restrictive territory, financial conditions are not tight. In fact, financial conditions were last this loose right before the Fed belatedly started hiking rates in early 2022.

All together, these stories provide cautionary tales for rate cuts. The confidence I observe in the “rate-cutters” shows insufficient deference to the stagflationary possibilities in the economy. Powell characterized the potential as “a challenging situation” after he finished explaining how “in the near term, risks to inflation are tilted to the upside, and risks to employment to the downside”. This position between a rock and a hard place motivates me to tighten my grip on my position in Goldman Sachs Access Inflation Protected USD Bond ETF (GTIP).

A Swirl Of Claims and Counterclaims

At this point, every one has an opinion on what the Fed needs to do. I have taken note of some key interviews and speeches to portray the painful complexity of the task ahead for the Federal Reserve. Anyone who claims with confidence that the Fed should do “X” is glossing over some part of this picture.

Cleveland President Beth Hammack Leans Against A Rate Cut

Interviews like the one with Cleveland President Beth Hammack formed part of the reason the stock market got caught leaning away from Powell’s first step on the stairs of hopeful monetary policy. A day before Powell’s speech, Hammack insisted that “with the data in hand right now, if the meeting was tomorrow, I would not see a case for reducing interest rates”. She warned that her “biggest concern is that inflation has been too high for the past 4 years. And right now it has been trending in the wrong direction [see chart above]. It’s important we stay modestly restrictive to make sure inflation is brought back under control” (Hammack’s predecessor expressed similar concerns earlier in the month).

Hammack also worried that the inflationary impact of tariffs are just getting started and will continue into Q1 and Q2 of next year given the timing of contract renewals. These worries did not sound like the setup for an incrementally conciliatory Powell.

Hammack also stated that “financial conditions are broadly supportive of the economy” (consistent with the ANFCI). Moreover, she is “not hearing interest rates are a huge problem”. The builders and businesses building new plants in Hammack’s district are complaining just as much about the cost of materials and labor as they are about high interest rates. In a case for future inflationary pressures, manufacturers in the Cleveland district have been buffering price increases but cannot not sustain the hits “forever”.

I surmise Hammack will vote against a rate hike in September. Will she suddenly find herself on the dissenting side of the ledger?

Former St. Louis Fed President Jim Bullard Bolsters Candidacy As Next Fed Chair

Candidates for position of the next Fed Chair share a common trait. They think tariffs will not cause lasting inflation and support cutting rates right away. Former St. Louis Fed President Jim Bullard is a recent add to the candidate list. In a CNBC interview on August 12, Bullard insisted tariffs do not cause inflation. Tariffs are a tax and taxes do not cause inflation (a common equivalence). He pointed to data showing very muted effects and claimed that tariffs are not interrupting the longer-term trend to 2% inflation. Like other supporters of rate cuts, Bullard is looking well beyond the current swirl of data and glancing at the top of the stairs of hopeful monetary policy.

Council of Economic Advisers Chair Stephen Miran Asks “What Inflation”?

Council of Economic Advisers Chair Stephen Miran is also on the list of potential candidates to next head the Fed. Miran appeared on CNBC the same day as Bullard to discuss the economy. By narrowing his view to inflation since inauguration, Miran calculated a 1.9% annualized rate of inflation (I assume this was a reference to headline inflation). He further insisted that there “continues to be no evidence whatsoever of tariff-induced inflation”, and he implied that there will be no evidence for future impacts either. Ultimately, exporters will bear the cost of tariffs because they are the least flexible part of the supply chain; Americans will just buy elsewhere or make formerly imported goods domestically (do exporting countries doing deals understand their ultimate doom?).

When asked about the bottoming in core inflation, Miran dismissed the dynamic because tariffs are not the culprit. Miran pointed to used cars and airfares as core drivers. He went on to finger illegal immigration for boosting rents by 4-5%. Thus, net services inflation will go to zero because of the current crackdown on illegal residency.

Miran stands confidently at the top of the stairs of hopeful monetary policy. I am guessing he is a front-runner in the race for Fed Chair.

Gold Paralyzed With Indecision?

The price of gold has largely stopped responding to the back and forth in inflation-related data and opinions on monetary policy. While the SPDR Gold Trust (GLD) increased 1.1% in the wake of Powell’s first step on the stairs of hopeful monetary policy, GLD remains firmly stuck in a 4-month trading range. A technical “bearish engulfing” pattern in April continues to loom over the trading action as a top. Still, I am betting on GLD responding bullishly to the next rate cut just as it did to the last one. GLD is up 30% after initially selling off in response to what was thought to be a hawkish rate cut at the time.

I have been holding a GLD calendar call spread for the last half or so of this trading range while rolling forward the expiring short ends of the spread. I plan to convert this position to an outright call spread ahead of the September Fed meeting.

Be careful out there!

The post Powell Places His First Step On the Stairs Of Hopeful Monetary Policy appeared first on Inflation Watch.

• Inflation remains elevated (from the FOMC statement)
• The risks to achieving employment and inflation goals are roughly in balance (also from the FOMC statement)
• No one dissented to the decision

Taken together, the Fed looks resolute about what Powell explained in the press conference as “we see things as in a really good place for policy and for the economy and so we feel like we don’t need to be in a hurry to make any adjustments.” However, this decision sure felt like the calm before the storm given the bookends to this meeting with big AI headlines and tariffs.

Inflation Floating Into Tariff Pressures

Inflation’s profile continues to give the Fed reason to pause. However, Powell said the Fed sees a “pathway” for inflation getting to target. The current downtrend in inflation for owner’s equivalent rent and housing services continues to exert downward pressure on overall inflation. However, for now, the downtrends in core CPI and PCE have essentially stalled since last summer. Powell is fond of explaining “we want to see further progress on inflation” and further progress has not happened for several months.

Sources: U.S. Bureau of Economic Analysis, Personal Consumption Expenditures Excluding Food and Energy (Chain-Type Price Index) [PCEPILFE], retrieved from FRED, Federal Reserve Bank of St. Louis; 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. January 31, 2025.

While there is reason for optimism that inflation will eventually float downward to target, other forces are brewing that could disrupt the narrative. At the time of writing, the U.S. announced blanket tariffs on three of its major trading partners. Starting February 4, the U.S. will charge Canadian and Mexican imports a 25% tariff, with a reduction to 10% for Canadian oil. Chinese imports will have a 10% tariff. The announcement even includes an escalator in case of retaliation. Canada has already promised retaliation with a 25% tariff on various U.S. goods. While there is some unconventional thinking out there about the economic impact of such broad-based tariffs, I am leaning toward more, not less, inflation from all this economic warfare.

Bond Vigilantes Calm for Now

In my last post, I referred to the reaction of the bond market to monetary policy. In this latest decision, Powell was very clear that term premium, the additional return that investors demand based on perceived risks, is driving up long-term rates. He insisted these yields are not going up because of inflation expectations or policy expectations. Thus, Powell is instead blaming unsustainable deficits and expectations for future massive bond issuance. However, the jury is still out. The bond market responded to the last two cuts with swift increases in long-term yields. This time, with no rate cut, the bond yields remained well-behaved.

The reaction to tariffs will be interesting. Yields could decrease because of anticipated economic weakness. Yields could increase because of anticipated inflationary pressures. Of course, sitting in the middle is stagflation. Either way, my trading strategy to fade rallies in iShares 20+ Year Treasury Bond ETF (TLT) does not look nearly as good as before!

The iShares 20+ Year Treasury Bond ETF (TLT) held mostly steady for the week right under resistance from the bottom of the previous trading range.

The Canadian Dollar In A Storm

There is a lot to say about the U.S. dollar and the current volatility in currency markets. The Canadian dollar (FXC) is particularly interesting because I thought by now USD/CAD would have broken through major resistance from a major double top. Instead, USD/CAD has churned in a wide trading range. After wild trading on Thursday and Friday tariff headlines, USD/CAD settled just above the top of that range. I decided to take profits and just wait to get back in on a fresh breakout and clear trend.

Be careful out there!

Full disclosure: long TLT puts

The post A Fed Calm Before A Market Storm? appeared first on Inflation Watch.

For three months, the bond market has flagged stabilizing inflation starting with the Fed’s first rate cut of 50 basis points (bps). The stock market continued to rally along its uptrend lines. In parallel, the Federal Reserve signaled its second thoughts about its benigas n projections for inflation in the September Summary of Economic Projections. The stock market failed to listen and even Fed fund futures insisted on forcing the Fed into a December rate cut. The Fed delivered that rate cut with a major caveat in the December Summary of Economic Projections: hotter forecasts for inflation and economic growth and an incrementally hawkish expectation for future monetary policy rates. Accordingly, the Fed finally got the stock market’s attention as the market essentially plunged from euphoria to oversold in one day.

Long-term yields continued to increase the day of the Fed decision and the following day. The iShares 20+ Year Treasury Bond ETF (TLT) sliced right through presumed support and closed right at the low for the year set in April.

I took profits on my latest round of TLT put options last week. I will not chase TLT down here. Instead, I will wait to fade the next relief rally.

Instructive Projections

The Fed’s changes were significant but consistent with the Fed’s smoke signals and the declines in the long-term bond market.

• 2025 PCE inflation of 2.3-2.6% vs. the 2.1-2.2% September projection
• 2025 federal funds rate of 3.6-4.1% vs. the 3.1-3.6% September projection
• 2025 GDP 1.8-2.2% vs. the September projection of 1.8-2.2%

Fed Chair Jerome Powell’s commentary during the press conference was instructive. Powell left no question that the Fed sees higher inflation ahead: “these median projections are somewhat higher than in September consistent with the firmer inflation projection.” He acknowledged that under-estimating inflation this year was a partial driver of higher 2025 expectations: this year’s projections have “fallen apart as we’ve approached the end of the year”. Yet, Powell also laid the foundation and rationale for keeping a bias toward easing. He pointed reiterated that the labor market is no longer contributing to inflationary pressures and its accompanying cooling has gone far enough. Moreover, activity in the housing sector has been “weak”. Accordingly, Powell claimed that “cuts will certainly help to support economic activity and the labor market while we can still make progress on inflation because policy is still meaningfully restrictive.”

I remain skeptical. Is current policy really “meaningfully restrictive”? In his opening statement, Powell declared “with today’s action we have lowered our policy rate by a full percentage point from its peak and our policy stance is now significantly less restrictive. We can therefore be more cautious as we consider further adjustments to our policy rate.” This claim only weakly translates into “meaningfully restrictive.” Moreover, financial conditions are now almost as loose as they have ever been since the pandemic per the Chicago Fed’s Adjusted National Financial Conditions Index (ANFCI).

Sure, as one reporter in the Q&A pointed out, “we haven’t seen much change in mortgages, auto loan rates, or credit card rates.” Still, the conventional measures of financial conditions are about as good as can be in the post-pandemic era. Thus, the Fed is walking a fine line between the fear of restoking firmer than expected inflation and a labor market that is noticeably cooling. In the middle, the stock market is pricing in a perfect resolution to this dilemma even with the current plunge.

Powell’s Inflation Narrative Still Rests With the Pandemic

At several points during the Q&A portion of the conference call, Powell offered his version of inflation’s recent history, its origins and drivers. I was surprised to hear him claim that the economy is still dealing with pandemic-related disruptions that are propping up inflation. Perhaps this was a thinly veiled attempt to excuse this year’s under-appreciation of inflation’s stickiness. Powell also blamed technical factors for inflation’s stickiness: the way housing rents are calculated, lags in the data, and “temporary factors like fluctuations in used car prices.” As usual, I turned a skeptical ear toward this narrative because Powell, as he consistently does, absolved the Fed of any responsibility in aiding and abetting inflation’s stickiness by keeping rates too low for too long. I reviewed the case for why the Fed should have raised earlier in “Why Monetary Policy Was Late In Responding to the Pandemic-Era Inflation Surge“). At least this year’s experience and the learning response suggests the Fed will be more circumspect. Victory over inflation is not quite at hand yet.

The Fiscal Wildcard

Circumspection and caution should be keywords going into 2025 and beyond given the uncertainties in fiscal policy. A deepening tariff war and significant tax cuts threaten the Federal Reserve’s fragile dance with inflation-fighting. The mix of opinions within the Fed are telling. In describing how individual Fed members incorporated fiscal policy risks into their forecasts, Powell responded that some members chose to try to estimate fiscal impacts, some chose to leave out fiscal impacts, and others chose not to indicate whether they included fiscal policy. That is quite a mix! Powell made it sound like people stubbornly constructed their forecasts. Anyway, this inconsistency means that the reality of fiscal actions could drive inflation estimates even higher and cause even greater caution at the Fed.

King Dollar

The U.S. dollar (DXY) was the big post-Fed winner. Fresh strength in the U.S. dollar drove the Invesco CurrencyShares Euro Currency Trust (FXE) to a new 2-year low. This breakdown sets up FXE to eventually retest the lows from 2022. Accordingly, I am finally fully on the strong dollar bandwagon. I also expect the stock market to struggle to hit new all-time highs while the U.S. dollar makes new highs.

Is the Invesco CurrencyShares Euro Currency Trust (FXE) ready to resume a downtrend that started in earnest during the financial crisis?

YouTube video of the December 18th FOMC Press Conference

Be careful out there!

Full disclosure: long SPY put spread

The post The Federal Reserve’s “Hawkishness” Finally Gets the Stock Market’s Attention appeared first on Inflation Watch.

Sources: U.S. Bureau of Economic Analysis, Personal Consumption Expenditures Excluding Food and Energy (Chain-Type Price Index) [PCEPILFE], retrieved from FRED, Federal Reserve Bank of St. Louis. 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, November 27, 2024.

October’s core PCE, PCE excluding food and energy, came in at 2.8% in October, up from 2.7% in September. Core PCE was last higher in April at 2.9%. Sticky service inflation is a key driver of the current stabilization. While prices for goods decreased 1.0%, prices for services increased 3.9%. Services expenditures increased across each sub-category: housing and utilities, health care, transportation services, recreation services, food services and accommodations, financial services and insurance, and other services. This broad-based strength is indicative of a strong economy where consumer spending remains robust. This robustness also presents a key challenge for the Fed as it seeks to “recalibrate” monetary policy by cutting rates. Even if the job market needs the relief, the (services) economy clearly does not need the rate cut relief at this juncture.

Interestingly, long-term yields decreased in the wake of the hot PCE news. The iShares 20+ Year Treasury Bond ETF (TLT) increased 0.7% (yields down) to a 1-month high. Given this move is inconsistent with a stabilizing, and perhaps now an increasing inflation rate, I attribute TLT’s move to a continuation of the week’s relief rally. TLT gapped higher in relief after Trump selected hedge fund executive Scott Bessent to head the U.S. Treasury Department. Once the dust settles, I expect TLT to fail at or around resistance from its 50-day moving average (DMA) (the red line below) and head back toward the bottom of the current (presumed) trading range. TLT almost tested the bottom of the range after Trump was elected and then again after October CPI came in hot.

Full disclosure: long TLT put

The post Inflation Stabilization Firms with Robust Services Spending appeared first on Inflation Watch.

“A strategy of repeatedly lowering the fed funds target range toward a more neutral level relies on confidence that the neutral level is materially lower than where rates are now. When I look at the available evidence, though, I see substantial signs that the neutral rate has increased in recent years, and some hints that it could be very close to where the fed funds rate is now…ces. I anticipate the FOMC will most likely need more rate cuts to finish the journey. But it’s difficult to be sure how many cuts may be needed and how soon they may need to happen.” – Navigating in shallow waters: Monetary policy strategy in a better-balanced economy, Dallas Fed President Lorie K. Logan, November 13, 2024

“Shifting from my baseline to alternative scenarios, recent information suggests to me that the risk of inflation ceasing to converge toward 2%, or moving higher, has risen, while the risk of an unwelcome deterioration in the labor market has remained unchanged or possibly fallen.” – Musalem: Remarks on Monetary Policy and the U.S. Economic Outlook, St. Louis Fed President Alberto Musalem, November 13, 2024

“While now is the time to begin dialing back the restrictiveness of monetary policy, it remains to be seen how much further interest rates will decline or where they might eventually settle.” – Longer-term Considerations for Growth and Monetary Policy, Federal Reserve Bank of Kansas City President and Chief Executive Officer Jeff Schmid, November 13, 2024

All three speeches included Fedspeak for caution on the pace of rate cuts while maintaining the flexibility to follow the data. These speeches also came on the same day as the release of the October CPI data. This timely convergence of caution and circumspection is important because core CPI maintained the stabilization trend in place since a low in July (see the green line below). Meanwhile, core PCE, the Fed’s favorite indicator of inflation also looks like it is stabilizing. In other words, it seems the Fed is paying attention to stabilizing inflation patterns.

Sources: 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, November 13, 2024. U.S. Bureau of Economic Analysis, Personal Consumption Expenditures Excluding Food and Energy (Chain-Type Price Index) [PCEPILFE], retrieved from FRED, Federal Reserve Bank of St. Louis, November 13, 2024.

Shelter costs continue to drive the bulk of inflation. For October, shelter costs constituted 65% of the year-over-year increase in the CPI. Housing costs are in a paradoxical juncture where monetary policy could help maintain elevated housing costs no matter where interest rates go. The National Assocation of Homebuilders (NAHB) laments that high interest rates contribute to contraints on supply thourgh an expensive and difficult financing environment for construction loans. On the other hand, looser monetary policy could reignite a housing demand that strains supply further and drives up prices. For now, a surprise rebound in mortgage rates is tamping down housing demand.

A Friendly Message from Gold?

While inflation is stabilizing, gold may have topped out.

Two months ago I interpreted the strength in gold as indicative of a skepticism about the Fed’s implied victory message on inflation. That trend persisted until last week. The resolution of the U.S. presidential election generated a fresh surge in Bitcoin (BTC/USD) and presumably drained interest in gold. The SPDR Gold Trust (GLD) gapped down and lost 3.0%. I was hopeful that the 50-day moving average (DMA) (the red line below) would hold as support. As a (perma) bull on gold, I added call options to supplement my core GLD position. Today’s 1.0% loss in GLD further confirmed a 50DMA breakdown. This bearish technical signal means that I am unlikely to try new short-term trades for a while.

Source for charts: TradingView.com

The new inverse correlation between gold and Bitcoin indicates a sharp shift in preferences with Bitcoin getting an added advantage from expectations of a pro-crypto regulatory regime starting next year.

The Bond Market Remains Wary

Two months ago I claimed that the bond market acted wary about the Fed’s presumed victory over inflation. Sure enough, long-term yields have steadily risen ever since. The iShares 20+ Year Treasury Bond ETF (TLT), which goes up when long-term interest rates go down, is now trading near the bottom of a presumed horizontal trading range. My strategy to fade TLT has worked all the way down.

After TLT gapped up for some reason on the CPI news, I thought I missed my latest profit opportunity. So when TLT faded back to the previous day’s close, I counted myself fortunate and took profits on my latest round of TLT put options. TLT then went on to lose 1.0% for the day.

The U.S. dollar soars

The U.S. dollar index (DXY) has benefited from one tailwind after another. Now, the presumed tailwind comes from the boost it should get with increased tariffs that also promise to prop up inflationary pressures in the economy. Fewer dollars going overseas to buy goods tips the supply/demand balance in favor of a stronger dollar. Two months ago I decided to bet on continues strength in the British pound versus the U.S. dollar by buying shares of Invesco CurrencyShares® British Pound Sterling Trust (FXB). I took the opportunity to buy when FXB tested its uptrending 50DMA. The currency ETF has continued downward from there with little sign of an imminent rebound.

Conclusion

With the Presidential election behind us, the bets on stabilizing (or even stronger) inflation are clarified for now: long Bitcoin, long gold only after Bitcoin enthusiasm wanes somehow, long U.S. dollar, and short TLT. While I sold all my Bitcoin earlier in the day, I will continue to trade by buying dips. I am conflicted on the U.S. dollar as I stubbornly hold some dollar shorts while trading in and out of dollar longs. At some point, I will commit to a dollar long by shorting EUR/USD. Europe stands to lose in the next administration with a weaker NATO, more contentious relationships, and higher tariffs in a weakening economic backdrop.

The Federal Reserve has ahead as precarious a path as ever while it gets increasingly wary about stabilizing inflation!

Full disclosure: long GLD shares and calls, long PHYS, long FXB

The post The Federal Reserve Is Paying Attention to Stabilizing Core Inflation appeared first on Inflation Watch.

The chart below shows the change in PCE in the red (and lower) line. The change in the CPI is in the blue (and higher) line.

Sources: 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, October 10, 2024. U.S. Bureau of Economic Analysis, Personal Consumption Expenditures Excluding Food and Energy (Chain-Type Price Index) [PCEPILFE], retrieved from FRED, Federal Reserve Bank of St. Louis, October 10, 2024.

Who is paying attention to the stabilizing trend n core inflation? The stabilization started ahead of the Fed’s 50 basis points rate cut on September 18th. The giddy anticipation of that rate cut dominated sentiment. Since then, the market has become relatively more certain about a 25 basis point cut in November.

Long-term bod yields fell going in to the Fed meeting but have since shot nearly straight up. Same for the U.S. dollar. The iShares 20+ Year Treasury Bond ETF (TLT) fell again in response to the CPI report, and the U.S. dollar gained marginally. So the bond and currency markets may start anticipating a longer-lasting stabilization trend. Note how TLT has come straight down except for a one week pause above support at its 50-day moving average (DMA) (the red line below).

Source: TradingView

During this time, the U.S. dollar index (DXY) first bottomed and then shot straight up for much of October.

Source: TradingView

While both shorting bonds and going long the dollar have been profitable trades, the most interesting trading action sits with the S&P 500 (SPY). Despite rising long-term bond yields, the index managed to break out to a fresh all-time high. The September CPI report barely knocked the index off its all-time high. The S&P 500 seems to have a mind of its own and is hardly paying attention to much at all over time. Even the recent increase in the volatility index (VIX) has barely fazed the S&P 500. Moreover, this strengthening bullish appearance is happening during a time which represents the third of the stock market’s most dangerous months.

Source: TradingVIew

In other words, while stabilizing inflation could dampen the trajectory for rate cuts, the S&P 500 seems to be on a near one-way track higher going into the November Presidential elections and year-end. Cause and effect across financial instruments seems quite muted. Or maybe stock traders and investors are straining to make the case that stabilization will soon give way to a resumption of a downtrend in inflation. Either way, it is not clear who is paying attention to stabilizing core inflation.

As long as these broken correlations persist, I prefer to just follow the current trends: fade TLT rallies, buy dips in the U.S. dollar, and, yes, buy the S&P 500 (I am currently hedged with a SPY put spread).

Be careful out there!

Full disclosure: net long the U.S. dollar, long SPY put spread

The post Who Is Paying Attention to Stabilizing Core Inflation? appeared first on Inflation Watch.