US inflation hot, stocks keep higher as bonds slip

Equities

US inflation was a little hot and certainly has a stagflation feel about it, but this won’t be a concern for the Federal Reserve in the slightest. CPI rose 0.6% month-on-month in July, unchanged from a month before and ahead of the 0.3% expected. Year-over-year, headline inflation rose from 0.6% to 1%, whilst core CPI was up 1.6% in July vs the 1.2% expected. Food prices were +4.6% YOY, with beef +14.2%.

Fed unlikely to worry if inflation heads higher

The Fed is going to become more relaxed about letting inflation run above its 2% target. Despite the indicators in the market like TIPs and gold prices suggesting that the massive dose of fiscal and monetary stimulus we have just had, combined with a supply constraint, the output gap is still huge and the economy will run well short of its potential for many years.

So that means the Fed should and could be relaxed about headline inflation running above 2% for a time, instead prioritising the employment level, but it also means inflation expectations can start to become unanchored as they did in the 1970s, which may have longer-term implications for the path of prices and relative values for gold and stocks.

In a nutshell, if inflation expectations lose their anchors then we are faced with a stagflationary environment like nothing we have seen for 50 years. High inflation, low growth for years to come is the unwanted child of a global pandemic meeting massive government intervention.

Treasury yields nudged up with the 5yr up to 0.307% from 0.269% and 10s up to 0.69%. Gold has largely held onto gains after a sharp turnaround this morning with spot trading around $1,935 after touching $1,949 this morning. Higher yields are bad for gold, but higher inflation is so good so the CPI numbers seem to be netting out for now.

EUR/USD moves off lows, SPX eyes all-time high

Earlier in the session, Eurozone industrial production rose over 9% in June but remains down 12% from pre-pandemic levels. EURUSD has moved up off its lows despite the print falling short of the 10% expected.

Stocks were well bid heading into the US session with Europe enjoying broad gains and the FTSE 100 leading the way at +1.5%. The S&P 500 is eyeing a fresh run at the all-time highs with the index only about 1.5% short; the scores on the doors are: record intraday 3,393.52, with the record close at 3,386.15.

The market came up a little short yesterday but you just sense bulls will push it over the line sooner or later. After yesterday’s reversal traders may be a little gun shy but the bulls have the momentum. The Nasdaq remains on the back foot pointing to the kind of rotation out of tech.

Oil heads higher after OPEC report

Crude oil rose with WTI (Sep) north of $42.50 after OPEC’s monthly report indicated the cartel will continue with production cuts for longer. In its monthly report, OPEC lowered its 2020 world oil demand forecast, forecasting a drop of 9.06m bpd compared to a drop of 8.95m bpd in the previous monthly report.

This report seemed to be quelling fears that OPEC+ will be too quick to ramp up production again. Specifically, OPEC said its H2 2020 outlook points to the need for continued efforts to support market rebalancing. Compliance was down but broadly the message seems to be that OPEC is not about to walk away from the market.