Market Report 12-08-21
Yesterday, the U.S. Bureau of Labour Statistics released its Consumer Price Index summary for the month of July – the most proxied measure of inflation in Western economies.
Prices rose 5.4% for American consumers relative to last July, the same increase seen year on year in June – indicative of the fact that whilst prices are rising far beyond the Federal Reserve’s “2% a year” target, the rate of growth of prices per month is tapering off. Inflation, which erodes the real returns on a variety of asset classes, including coupons on bonds and dividends on equities, is always at the forefront of investors’ minds.
However, like in previous editions of the William John Market Report, investor sentiment appears steady and reassured by the Federal Reserve’s assertion this inflation is merely “transitory” and will cool down as the U.S. economy readjusts to post-pandemic life. Some economists have said that high levels of inflationary pressure are persisting due to a slow adaptation from various supply chains going from a “locked down” economy to an open one, creating supply chain bottlenecks, and this is contributing to sustained high prices and continual price raises per month to cope with high post-pandemic demand.
On the release of the news, the S&P 500 reacted mildly, closing 0.25% higher at 4,447.70 index points on 11/08 relative to 4,436.75 points on 10/08. On the contrary, since the initial series of lockdowns and counter-pandemic measures in March 2020, the S&P 500 is close to doubling in value as of close on 11/08:
Source: William John Analytics, Yahoo Finance
This makes U.S. blue-chip stocks one of the most robust asset classes since the outbreak of the pandemic – majorly supported by accommodating monetary policy and strong financial governance by the Federal Reserve.
Additionally, the yield on 10-year U.S. Treasury bonds, which moves inversely to their price, has creeped up from 1.20% on Monday last week to 1.35% on 11/08. Investors usually adjust their capital allocation away from low-return government bonds if they anticipate inflation will erode their real returns on coupons. It appears the slight sell off of U.S. Treasuries may indicate investors’ concerns about current “transitory” inflation are mounting – its current level cannot last forever.
Meanwhile, in the U.K., the Bank of England has been more direct with its approach to current inflation levels. In a report released on 05/08, the Bank stated it would hold its underlying interest rate (which determines and influences commercial interest rates to a significant degree) at 0.1% and would maintain its asset purchasing programme to keep markets liquid.
However, it laid bare both its inflation forecasts and how it will “tighten the economy” when appropriate. On inflation, the Bank predicts U.K. inflation to fall under its 2% target by 2023 – seeing higher-than-usual levels persist until then. On “quantitative tightening”, the opposite monetary policy tool to quantitative easing, the Bank said it will stop reinvesting in bonds that mature when the Monetary Policy Committee (MPC) of the Bank decides to raise its interest rate to 0.5% from 0.1%, and then will start to sell parts of its bond portfolio when the MPC raises its interest rate to 1%.
Overall, monetary themes continue this summer. But crucially, Central Banks are starting to lay out their plans to combat inflation if it does persist for too long, with the main tools to “tighten” the economy in such circumstances now confirmed as being hiking interest rates and quantitative tightening programmes.
Any opinions expressed in these documents are those of William John and are provided for information only. E&OE.
