I've written a lot about inflation recently. I still think markets are at the mercy of inflation and the triumvirate of doom, which means that the U.S. inflation report is likely to remain the most economic piece of data for markets, for the foreseeable future. I haven't been looking at the inflation trades for a while, however, which I will seek to make amends on here. Falling inflation eventually will allow central banks to perform the much-discussed pivot, both in terms of the speed of tightening and eventual terminal rate. The latter follows naturally from the fact the tightening cycle's end point inevitably draws nearer as central banks continue to raise rates. An even bigger question is what inflation regime will emerge once the current fever breaks—and it will break, eventually. Markets ought to be able to tell us something about that.
Read MoreIt was heartwarming to see equities attempt a rebound from the initial knee-jerk plunge in the wake of yet another consensus-beating U.S. CPI print last week. BofA’s Michael Hartnett called it the ‘bear hug’, noting that the “SPX was up 5% in 5 hours after a hot CPI because it was simply so oversold”. By the close on Friday, however, the hug had turned into a strangulation. The S&P 500 fell 2.4% on the day, finishing the week with a 1.8% loss. It is difficult to see anything but pain in equities as long as the triumvirate of doom—DM core inflation, bond yields and fixed income volatility—are making new highs. My next three charts show that they are doing exactly that. Barring an outlier in the UK September print, my gauge of OECD core inflation rose further at the end of Q3, bond yields are at new highs, and so is the MOVE index.
Read MoreI’ll let the charts do the talking this week. This is always a good idea when it’s been a while since you’ve had a broader look at markets. As far as I can see, not much has changed. The U.S. CPI report is still the most important economic report of the month. The violent sell-off in response to what was a small upside surprise to U.S. core inflation in August is all you need to know. Markets would like to see a sustained roll-over in inflation, and an associated pivot in Fed tightening. So far, this is not happening. Equities have suffered badly in the wake of the August CPI data, and a 75bp rate hike from the Fed later this month is now a done deal. Some sell-siders have even stuck their neck out, calling for a 100bp hike. It’s gnarly.
Read MoreIn my last view on markets, I asked whether inflation fears had peaked? Judging by the price action since, the answer would seem to be yes, tentatively. It’s a cliché, but true. Markets trade at the very thin margin of the flow of economic information, and this edge has shifted in the past month. Inflation is still high, but it is no longer accelerating rapidly, and evidence of increasingly fragile economic activity is piling up. The headline surveys have weakened materially, especially in Europe, and we recently learned that the US economy entered a technical recession in the first half of the year. For markets, this means monetary policy tightening will be less pervasive, both in terms of speed and sustainability. Upside inflation surprises now are associated with sharp flattening, even inversion, of interest rate curves, as markets perceive the window for policy tightening closing, fast.
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