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    Instant Insights: Still disinflating

    Instant Insights: Still disinflating

    October 12, 2023 Fixed income
    • Shelter and energy were the main drivers of inflation this month
    • We still believe disinflationary trends are in play
    • The end of “peak base effects” are one reason upside inflation risks cannot be ruled out in the coming months

    Shelter and energy were the key drivers 

    A rebound in global energy prices lifted CPI last month. Energy CPI remained positive this month at 1.5% month-on-month but moderated from 5.6%. Within energy, gasoline and electricity prices were notable contributors.
    Global oil prices have moderated meaningfully over the past several weeks, which may feed favorably into next month’s release, but a recent escalation of violence in the Middle East adds a new element of uncertainty.

    Figure 1: Energy CPI has continued to pick up

    Energy CPI has continued to pick up

    Source: Bureau of Labor Statistics, Insight, October 2023

    The largest positive contributor to the monthly increase was shelter, which rose 0.6% month-on-month (its largest monthly print since February). However, we do not expect this to be a trend, at least in the near term, given its calculation methodology, which causes it to severely lag private rental indices by several months. On a year-on-year basis, shelter inflation is still easing and we expect that trend to continue (Figure 2).

    Figure 2: Shelter surprised to the upside on a month-on-month basis, but is still easing year-on-year

    shelter inflation

    Source: Bureau of Labor Statistics, Bloomberg, Insight, October 2023

    The largest negative contributors this month were used vehicles and durable goods categories such as apparel.

    Price pressures are narrowing from a momentum perspective

    We consider the 3-month annualized growth rate to be a good indicator of momentum. By this metric, headline CPI is running at 4.9% and Core CPI at 3.1%, down from 10% and 6% respectively last summer.

    Around this time last year, more than half of the CPI index (by combined weight) was growing at 8% or above on a 3-month annualized basis. Today, that share is below 10%. Encouragingly, almost half of the index is now growing at 4% or lower on a 3-month annualized basis (Figure 3).

    Figure 3: There are signs of broader disinflation

    There are signs of broader disinflation

    Source: Bureau of Labor Statistics, Insight, October 2023

    The Fed is succeeding in controlling near-term inflation pricing

    Market-based measures of inflation expectations remain well-anchored, at least for the near-term. Inflation “breakeven” expectations1 1-year from now are as low as 1.3%, significantly below the Fed’s target, suggesting that investors are confident that the Fed will be able to tame inflation. Out to 5-years, breakevens are also generally trading below their interquartile ranges (represented by the green boxes in Figure 4) since 2021 (when inflation began to accelerate).

    Figure 4: The Fed has successfully anchored near-term inflation expectations

    inflation pricing

    Source: Bloomberg, Insight, October 2023. The boxes represent median and inter-quartile ranges. The whiskers stretch out up to an additional 1.5x the interquartile above / below the box (bounded by the largest / smallest values within the range). Additional values outside the whiskers are outliers.

    The overall picture remains disinflationary, but upside risks remain

    Near-term upside inflation risks cannot be ruled out. The “easy wins” from base effects are now behind us. Elsewhere, from next month, health insurance CPI (which is based on an annual calculation) will reset, going from a persistent negative contributor to a positive contributor for the next 12 months.

    Although there may be more volatility in the upcoming CPI reports, fundamentally, the picture remains disinflationary in our view. While we cannot fully rule out one more rate hike by the end of the year, we expect the Fed will remain cautious given significant tightening of financial conditions over the last month.

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