The tone of the conflict in the market inflation debate


Jeffrey Gundlach Two-line Fund This week, he added some color to the monthly slide presentation of market and investment talking points.Bond manager and former punk rock drummer pay tribute to The Clash’s second album Give them enough rope.

The cover depicts the body of a dead cowboy trapped in the desert after being attacked by a condor. Gundlach said that if the current economic price continues to soar, bond investors may face a similar fate, and joked that it “may be a forecast of upcoming inflationary pressures.”

Currently, no topic can dominate investor concerns and conversations more than inflation. It is a framework for recent views in the second half of the year and beyond, and it is also for good reason. In any case, the prices of bonds and stocks are at high levels, and their high valuations have created a financial system that will not be affected even by the continued mild inflationary shock after this year.

If you own bonds, the higher rate of sustained inflation over time will erode the value of their interest payments and represent actual losses. Although stocks are attractive to some people as an inflation hedge, it depends on owning companies that can increase revenue, earnings, and dividends at a faster rate.

Investors are debating whether the producer and consumer price spikes will be temporary, as the Fed believes, or will become deeply entrenched.

The aggressive fiscal and monetary policy background has exacerbated concerns about increased inflationary pressures in the medium term. This potentially combustible combination has policy additives that come from the Fed’s intention to tolerate a higher inflation rate above its 2% target for an unspecified period.

Summarizing the current uncertainty of investors, Gundlach said: “Who knew this would be temporary?” and referred to a US consumer price chart, which now shows a “breakthrough” after “sideways for the past ten years”. .

This significant upward trend gained further momentum last month, with U.S. core price, Excluding food and energy, increased by 3.8% in the past 12 months to May, which is the fastest growth rate since 1992 and after an annualized increase of 3% in April. Second-hand car prices have risen sharply, followed by airfare prices, which highlights how consumer demand has overwhelmed supply in various industries as the economy reopened.

At least for now, information from the market confirms the Fed’s position that consumer price pressures may be temporary. The stock market led by the Standard & Poor’s 500 Index rose slightly by 0.2% and closed at a record high. The interest rate on the 10-year U.S. Treasury bond fell to its lowest level in three months. Less than 1.5%.

One explanation for why the temporary inflation outlook dominates the market is that any shift to a sustainable upward trend will only become apparent in the next 6 to 12 months. During this period, investors and the central bank will carefully monitor a series of indicators.

Eventually demand and supply imbalances become more stable. But this time, the process may take longer to complete, driving the definition of what is considered temporary price pressure because consumers lock in savings to make up for lost time in the pandemic.

The 10-year benchmark chart fell to a three-month low, showing that the U.S. bond market believes that the inflation spike is temporary

The key role is wage growth. During the period of rising unemployment, reports of labor shortages have been resounding. In May, nearly half of American small business owners reported job vacancies and they “are offering higher wages in an attempt to solve the labor shortage problem”, according to reports National Federation of Independent Enterprises.

Again, some people believe that higher wage growth will be short-lived, and it is expected that once government assistance ends, more people will look for work after September. But one reason for concern is that rising consumer prices may encourage workers to seek higher wages, and in turn, companies will pay first and then raise prices. Wage and price spirals were typical features of the economy in the 1970s.

Lou Crandall, an economist at Wrightson Icap, said: “The normal stickiness of wage trends has been overwhelmed by today’s abnormal economic conditions, and companies may think they have greater pricing power than we originally assumed.”

Although the United States is far ahead in reopening the economy, there are reasons to see similar dynamics when other countries follow suit. This may intensify the pressure on the global supply chain and should support the prices of commodities led by oil.

In turn, this will raise the bond market’s expectations of inflation and plunge investors into a corridor of uncertainty. Before taking action, investors will have to bet on how much inflationary pressure the central bank is willing to bear.

TS Lombard global macro strategist Dario Perkins (Dario Perkins) said in a research report: “Investors must not only monitor the strength of the rebound, but perhaps more importantly, monitor its duration.”

This is not easy. There will be more “forecasts” of inflationary pressures in the coming months.

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