Rates Like Tamer Inflation

Inflation Data Eases Rate Concerns

Despite the on-again, off-again peace negotiations this week, we received important inflation news from the Consumer Price Index (CPI) and the Producer Price Index (PPI). It was clear that the rise in prices was almost exclusively due to energy prices. Markets saw rates drop slightly back to levels seen in early May. 

Energy Prices Remain the Main Driver

As estimated, the CPI headline reading for May was reported at 0.5%. Also, as expected, the yearly inflation rose from 3.8% to 4.2%. Gasoline was the main culprit, rising 7% in the month and 41% year over year. The Core rate, stripping out food and energy prices, rose 0.2%, slightly better than markets expected. The yearly Core inflation rose from 2.8% to 2.9%, but the unrounded rate was 2.85%. This was a very small move.

Shelter and Airfares Explain Most Gains

About 85% of inflation came from shelter and airline fares. Shelter rose 0.32%, with rents rising 0.4% and almost 3% yearly. This is still an overstatement on rent as more real-time reporting shows that rental increases are closer to 1%. Airline fares rose 2.7% in May and are up 27% year-over-year. Even though gasoline prices aren’t factored into Core CPI, this is where they sneak in. We know the fare increases are mainly due to increased fuel costs.

The Fed Faces a Tough Question

Out of the 0.21% rise in Core CPI, 0.18% of it came from Shelter and Airline fares. This means there was only a 0.03% increase in everything else. This creates an interesting dilemma for the Federal Reserve. Many people are discussing the need for the Fed to hike rates to control inflation. Since this inflation is almost exclusively due to energy prices, would a Fed rate hike even help? Can the Fed open the Strait of Hormuz? It will be interesting to see what the new Fed Chair Warsh says as he presides over his first meeting.

Wholesale Inflation Tells the Same Story

On the PPI side for May, it was a similar story to CPI. Almost all the increases came from rising oil prices. Remember that this inflation gauge measures wholesale inflation before it reaches the consumer. This primarily affects business margins, and some price changes are passed on to consumers, which is what shows up in the CPI.

Headline PPI Runs Hot

Headline inflation rose 1.1%, much hotter than the 0.7% estimate. There was a downward revision from April, which brought it closer to estimates. The yearly inflation rose from 5.7% to 6.5%, which was hotter than expected. The Core PPI rose 0.4% in May, slightly less than expected. If we go by the original April-reported figure, Core PPI would have risen only 0.1%.

Portfolio Fees Distort Core Inflation

One reason for the Core inflation this month was Portfolio Management. When the stock market rises, financial firms make more money by charging higher fees to manage clients’ money. These earned fees rise as the portfolio grows, which shows up as a price increase in PPI. This isn’t really inflation. The fee percentages aren’t increasing, but the dollars earned are increasing.

Services Inflation Remains Muted

The Bureau of Labor Statistics (BLS), which releases CPI and PPI, noted that services contributed only 0.22 percentage points to the May PPI headline, despite carrying 65% of the index weight. This also clearly shows that the increases are driven by energy prices. This is not anything the Fed can control.

SpaceX Makes Market History

I would be remiss if I didn’t recognize the largest IPO in history that occurred on Friday. SpaceX went public and made Elon Musk the first Trillionaire on the planet. It also turned many employees of that company into millionaires. I bet this will be good for Texas property values!

Looking Ahead: Next Week’s Economic Calendar

Next week is a shortened week due to the Juneteenth Federal holiday on Friday:

• Monday, June 15: Industrial Production and Capacity Utilization
• Tuesday, June 16: ADP Weekly Employment, Housing Starts, 20-year Bond Auction
• Wednesday, June 17: Retail Sales, Pending Home Sales, Fed Meeting, and Press Conference
• Thursday, June 18: Jobless Claims