- Stocks continue to fall on strong CPI reportÂ
- U.S. PPI also likely to show an inflation surge
- 30-year T-bond auction to yield near 2.41%
Stocks continue to fall on strong CPI report — The U.S. stock market on Wednesday fell sharply on the stronger-than-expected CPI report, which sparked worries that the Fed might need to tighten monetary policy sooner than earlier thought.
The S&P 500 index on Wednesday fell to a new 5-week low and closed sharply lower by -2.14%,. Meanwhile, the Nasdaq 100 index fell to a new 6-week low and closed the day down -2.62%. The Nasdaq 100 index has now corrected lower by a total of -7.9% from the late-April record high.
Meanwhile, the 10-year T-note yield on Wednesday rose sharply by +7 bp to 1.69%, which was just 8 bp below the late-March 1-1/3 year high of 1.77%.
Yesterday’s April CPI report of +0.8% m/m and +4.2% y/y was substantially stronger than the consensus of of +0.2% m/m and +3.6%. The April core CPI of +0.9% m/m and +3.0% y/y was also much stronger than the consensus of +0.3% m/m and +2.3% y/y.
The strong year-on-year CPI figures had little meaning due to the low year-earlier base caused by the pandemic shutdowns. However, the CPI has clearly surged in the past several months. On a 3-month annualized basis, the headline CPI in April rose by an extraordinary +7.2% and the core CPI rose by +5.6%.
Inflation is being pushed higher by bottlenecks and pent-up demand as the pandemic fades. One third of the increase in the CPI was due just to a +10% monthly gain in used car prices. Used cars are in high demand from (1) consumers who are looking to spend their stimulus checks, and (2) rental-car companies that are looking to bolster the size of their fleets on revived travel demand.
The reopening of the economy is clearly a major factor behind the inflation surge, with the CPI report showing price increases in restaurants, lodging, and airfares.
The question continues to be whether the current surge in inflation is transitory and whether inflation expectations become unmoored. The 10-year breakeven inflation expectations rate yesterday rose to a new 8-year high of 2.59% and closed the day +2 bp at 2.56%.
Inflation expectations are currently well above the Fed’s +2.0% inflation, but they are not yet “unmoored.” If inflation expectations were to rise above +3.0%, then the Fed might need to start panicking because expectations for an upward spiral in inflation can be self-fulfilling. The market needs to remain confident that the Fed will not let inflation get out of control.
Fed Vice Chair Clarida yesterday nodded in that direction by saying that he was surprised by the rise in U.S. Apr CPI and that the Fed “would not hesitate to act” to bring inflation down to its goals if needed.
However, the Fed is certainly not ready to give up on its long-held contention that the post-pandemic inflation surge will be transitory. The problem is that the Fed and the markets will not know whether the inflation surge is transitory until this autumn or winter when the economy cools off. That means that the markets likely face weeks of angst as they wait to see if inflation cools off from current levels.
U.S. PPI also likely to show an inflation surge — The consensus is for today’s April final-demand PPI to show an increase of +0.3% m/m and +5.8% y/y following March’s report of +1.0% m/m and +4.2% y/y. Meanwhile, the Apr core PPI is expected to show an increase of +0.4% m/m and +3.8% y/y following March’s report of +0.7% m/m and +3.1% y/y. The markets would not be surprised if today’s PPI is above the consensus given yesterday’s upside CPI surprise.
Claims expected to show a continued improvement in the U.S. labor market — The consensus is for today’s weekly initial unemployment claims to show a decline of -8,000 to 490,000, adding to last week’s sharp decline of -92,000 to a 14-month low of 498,000. Today’s continuing claims report is expected to show a decline of -40,000 to 3.650 million, more than reversing last week’s +37,000 increase to 3.690 million.
While the unemployment claims series continues to improve, initial claims are still 282,000 above the pre-pandemic level and continuing claims are 1.98 million above the pre-pandemic level.
10-year T-bond auction to yield near 2.41% — The Treasury today will sell $27 billion of new 30-year T-bonds, concluding this week’s $126 billion refunding operation. The size of today’s 30-year auction is unchanged from February’s level.
The benchmark 30-year bond yield yesterday closed sharply higher by +7 bp at 2.41%, which is only 10 bp below the mid-March 1-3/4 year high of 2.51%. Today’s new 30-year bond issue was quoted at 2.405% in when-issued trading late yesterday afternoon.
The 12-auction averages for the 30-year are as follows: 2.33 bid cover ratio, $6 million in non-competitive bids, 5.7 bp tail to the median yield, 71.3 bp tail to the l