Red Hot Inflation Numbers

The market has thrown in with the Federal Reserve — it expects inflation to prove “transitory.”

May’s consumer price index came issuing from the Department of Labor this morning.

In the technical vernacular, May’s numbers came in “hot” — 5% — the greatest scorching in 13 years. CNBC:

The consumer price index, which represents a basket including food, energy, groceries, housing costs and sales across a spectrum of goods, rose 5% from a year earlier. Economists surveyed by Dow Jones had been expecting a gain of 4.7%.

The reading represented the biggest CPI gain since the 5.3% increase in August 2008, just before the financial crisis sent the U.S. spiraling into the worst recession since the Great Depression.

Meantime, core inflation — food and energy components subtracted — jumped 3.8%…  the greatest leap since May 1992.

These inflation numbers would normally trigger klaxons within the bond market, as the sudden appearance of a lion might alarm a pack of gazelles.

Yet the lion proved fangless, tame as a tabby.

The gazelles put out their tongues, made mocking faces… and razzed the cat.

That is, today’s report left the bond market unflustered, unfazed, unriled.

Not only did the 10-year Treasury yield fail to jump — it retreated 1.6% on the day, to 1.45%.

In reminder: Inflation eats through the value of bonds. Thus bond holders demand extra compensation if they are to retain them.

That is, they demand higher bond yields to compensate them for the wasting asset in their pockets.

The longer-dated the bond, the greater the yield they demand to outrun inflation.

(Recall further that bond prices and bond yields represent two ends of the seesaw — when prices go up, yields come down — and vice versa).

Yet today, the bond market took a great big yawn. Yields fell. Prices rose.

Even the longer-dated 30-year Treasury inched higher today, its yield lower. Why?

For explanation, we turn to the crackerjacks on Wall Street.

For example, Mr. Mark Zandi — chief economist at Moody’s Analytics:

A lot of the surge in prices are for things that are just normalizing… Hotels and rental cars and used vehicles, sporting events, restaurants. Everyone is just getting back to normal, so pricing is just returning to what it was pre-pandemic.

Rising inflation jitters the stock market because rising inflation ends in rising interest rates.

And rising interest rates often injure the stock market. Yet stocks held firm against today’s inflationary heat…

The Dow Jones gained 19 points on the day — as did the S&P. The Nasdaq added 108.

The Federal Reserve huddles next week, June 15 and 16.

Many feared sizzling inflation numbers would compel it to begin mumbling about “tapering” its asset purchases… to get water on the inflationary brushfire.

But today’s shoulder-shrugging of the markets hands it an excuse to disregard the smoke.

Mr. John Briggs, he of NatWest Markets:

The pick-up in inflation is stronger than expected. But it still looks like it is in transitory categories.[Fed officials] can probably get away with talking about transitory.

Grant Thornton chief economist Diane Swonk, nodding up and down in agreement:

The remarkable resilience of the long bond — it gives the Fed the opportunity to think about tapering, because financial markets are buying it as a transitory surge in inflation.

Our own Jim Rickards has been up on his rooftop for months, ducking hostile fire, yelling an identical message…

Today’s inflation is transitory, the recent rise in bond yields a feint, he has insisted.

Today he appears vindicated. The numbers are with him.

The 10-year yield jumped to 1.74% by March’s end — inflation expectations having given it a good hotfoot.

Yet the same 10-year yield has come sliding back down to 1.45% today… despite bubbling inflation.

Will rates continue to fall? What about their impact on gold?


Brian Maher

Brian Maher
Managing Editor, The Daily Reckoning

The Daily Reckoning