All of a sudden, inflation is a ‘thing’

By David Enna, Tipswatch.com

I’ve been writing about inflation and inflation-protected investments for 10 years, and most of that time, actual U.S. inflation has been sleepy and dull. Suddenly, but not too surprisingly, that has changed.

Official U.S. inflation — measured by CPI-U, the Consumer Price Index for All Urban Consumers — rose at unexpectedly high rates in March and April, well above consensus forecasts. And it looks like this could continue for several months. The result: Inflation is suddenly a very hot topic. And that actually is worrisome, because when workers begin “accepting” that future inflation will be high … wages will rise and accelerate the trend.

Google emails me a daily search alert for “Treasury Inflation-Protected Securities,” and most days in the past there would be no email at all, or an email with one or two slightly-related stories. Now, that list is booming to 12 to 15 stories a day.

So let’s take a look at what media are saying about inflation.

Wall Street Journal, May 23

The stakes are high for investors. Inflation dents the value of traditional government and corporate bonds because it reduces the purchasing power of their fixed interest payments. But it can also hurt stocks, analysts say, by pushing up interest rates and increasing input costs for companies. …

As of Friday, the yield on 10-year TIPS was minus 0.826%—meaning investors would lose money absent any inflation—compared with 1.629% for the nominal 10-year Treasury note. That means CPI growth would need to average at least 2.45% over the next 10 years for the inflation-protected security to pay as much or more than the nominal Treasury.

To some, this makes TIPS the safest and best inflation hedge. Investors are nearly guaranteed to get their principal back if they hold the bonds to maturity. At current yield differentials, they can earn significantly more than regular Treasurys if inflation fears are realized.

Still, TIPS returns are likely to be paltry under almost any scenario, particularly if inflation comes below expectations.

Yahoo! Finance, May 21

About one in three U.S. adults say they’re spending more on groceries than they were at the start of 2021, according to a Morning Consult survey of 2,200 U.S. adults conducted May 17 to 19 for Bloomberg News. Red meat was the ingredient cited most often for its higher prices, with chicken right behind.

CNBC, May 21

“In general, inflation is usually negative for stocks,” said Amy Arnott, a portfolio strategist at Morningstar. She pointed to history as proof: Between 1973 and 1981, inflation rose by more than 9% a year. During the same period, stocks shed about 4% annually. …

Another good match for investors worried about inflation are Treasury Inflation Protected Securities, or TIPS, said CFP Nicholas Scheibner, a wealth management advisor at Baron Financial Group in Fair Lawn, New Jersey. These securities carry a similar risk as other fixed income investments, he said, but they add an adjusted principal amount if inflation increases.

E-piphany by Michael Ashton, May 20

The Federal Reserve has recently started to use the word “transitory” when describing inflation pressures in the U.S. economy. What they’re trying to indicate is that we shouldn’t worry, the pressures we are seeing right now will eventually pass. But that’s stupid. All inflation is transitory. …

Maybe what they mean is that “these price changes we are seeing are all the results of supply and demand imbalances in nominal space, so they’ll all reach equilibrium and inflation will go away.” If that’s so, then (a) they’re probably wrong, (b) that’s what inflation looks like anyway; it doesn’t manifest as smooth price changes across all goods at the same time, and (c) you still haven’t told me over what period it will take for this equilibrium to occur.

New York Times, May 20

It is too soon to show up clearly in the data, but there are anecdotes aplenty that companies are rapidly increasing pay. Just this week, Bank of America said it would start a $25-per-hour minimum wage by 2025, up from $20, and major chains like McDonald’s, Starbucks and Chipotle have announced significant moves toward higher pay in recent weeks.

Associated Press, May 20

Many economists, as well as the Federal Reserve, say not to worry about any of this. They’re convinced these fast price gains will prove fleeting. If the experts are wrong, however — remember last month’s jobs data, where economists’ predictions were wildly off the mark? — it could ravage the economy and force the Fed to reverse its record-low interest rate policy and trim the bond purchases that are boosting markets. … (B)e prepared to experience even more swings in the stock market as Wall Street’s biggest question waits even longer to be answered.

Barron’s, May 17

For business owners and consumers on the ground, official inflation data and policy makers’ commentary are an alternate reality. Inflation is here, say grocery shoppers, home buyers, manufacturers, and retailers who insist that their dollars are buying less. …

The gap between reported price inflation and the experiences of businesses and consumers is a signal to investors that inflation is hotter than it looks. Implications of the disconnect are vast, affecting Social Security payments, tax-bracket adjustments, and economic growth calculations, in addition to investment returns, inflation expectations, and interest rates.

“All you have to do is open up your eyes to see there is inflation pressure everywhere,” says Ed Yardeni, president of Yardeni Research. “We are in stimulus shock.”

MarketWatch, May 12

The Fed has been hit by two major data surprises. Last Friday’s weaker-than-expected April job report and Wednesday’s hotter-than-expected April consumer prices. …

As the economy reopens, “we could have more persistent imbalances between aggregate demand and supply that would put more persistent upward pressure on inflation than we and outside forecasts expect,” (Federal Reserve Vice Chairman Richard) Clarida said Wednesday after the inflation data was published.

“I expect inflation to return to – or perhaps run somewhat above – our 2% longer-run goal in 2022 and 2023,” he said.

Final thoughts

I was at a dinner party recently (with fully vaccinated friends) and the topic turned to cooking and shopping in general. I asked the group: “Do you think prices are rising much faster right now?” The immediate reaction was a loud “YES,” across the board, with people giving examples of the price of onions, meat, lumber, used cars, housing.

Consumers have been noticing higher inflation for months. In May, the U.S. media also noticed. The overall effect is that “inflation consciousness” is seeping into the U.S. economy. This trend will continue for several months, but could dwindle later in the year. Or not. We’ll see.

* * *

David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. The investments he discusses can purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.

About Tipswatch

Author of Tipswatch.com blog, David Enna is a long-time journalist based in Charlotte, N.C. A past winner of two Society of American Business Editors and Writers awards, he has written on real estate and home finance, and was a founding editor of The Charlotte Observer's website.
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11 Responses to All of a sudden, inflation is a ‘thing’

  1. Patrick says:

    Am I the only one who thinks higher, even crazy higher, inflation is okay? Eventually banks will pay more on savings accounts and CDs (although banks are always slow to raise rates, and quick to lower them). Sure prices for consumer goods will go up to offset some of the interest gain. But if you have, say, a million bucks in a bank, and a couple of hundred thousand in I-bonds, you probably want higher rates, which will only happen with higher inflation.

    • Tipswatch says:

      I never cheer for higher inflation, higher than 2.0% a year anyway. If inflation surges to say 5% or 6% or 10%, you would need to pray your employer will grant you raises matching that amount every year. If you have a pension or annuity that isn’t matched to inflation (I do), the value of that asset would decline every year. And … even with high inflation, will the Fed have the courage to allow interest rates to rise so savers can benefit?

      • Arthur McBride says:

        Also, the I bonds bought today are only keeping pace with inflation, but you still have to pay tax on the “gains”.

  2. Jim Bo says:

    This is just a rebound from the paltry inflation that we had last year due to the pandemic. Last April inflation was 0.3%. This year it’s 4.2%. Add the two and divide them by 2, you get 2.3%. Hardly earth shattering. Last May was 0.1%, Last June 0.6%. How could this year’s inflation not go up from those ridiculously low percentages?

    China is going to continue to undercut US and EU prices for manufactured products. The scary part is that the quality of their products is on par or better than their US and EU counterparts Wait until they start exporting electric cars. Even Trump’s trade war could put a dent in the trade deficit with China. Biden can make the government buy American. But nobody else is going to.

    Besides China, there’s a boatload of other emerging asian countries that can keep inflation in check by exporting cheap goods. NAFTA and other free trade agreements have destroyed the American middle class. However, it’s certain kept inflation in check. Even the software services industry is affected by outfits like Infosys. At least I retired before they could steal my lunch money.

    Eventually, the piper is going to have to be paid. The never ending trade deficit, the unprecedented peace time national debt, the obscene stock P/E ratio. The US economy is frothing like a rabid dog. During a pandemic! Trump’s “tax reform” just added to an already bloated deficit. Biden’s spent more than Trump in just a few months. The only person worried about it is Bill Maher!

    • Tipswatch says:

      Sure, I agree the year-over-year comparisons are part of the reason we should be seeing higher inflation now. That was all figured into the consensus estimates for March and April, but inflation came in MUCH higher than the consensus. So there is more to this than just the year-over-lousy-year. From July 2020 to today, the U.S. dollar index has plummeted from about 97.50 to 89.65. That’s a drop of about 8%, and that is inflationary. But will that trend continue? Right now the U.S. economy is simultaneously seeing higher inflation, a weaker dollar AND supply shortages, across a lot of staples, and labor shortages, too. So it could be a turning point. No one can say for sure.

  3. Wilson says:

    David,
    Regarding fear of significant inflation seriously eroding your life’s savings, One idea I’ve considered, if you have fixed income money on the sidelines right now needing to be invested, but are worried about serious future inflation being accompanied with low interest rates, is to go ahead and take the current paltry TIPS rate and possibly lose a LITTLE if inflation stays low, but be guaranteed not to lose a LOT through inflation. Maybe this would apply to those of us that are risk averse and can afford to lose a little but not a lot.
    Does this thinking make any sense?

    • Tipswatch says:

      Sure, I think this is direction a lot of people are heading … shorten duration and move more assets to inflation protection. You might underperform, but you have insurance against unexpectedly high inflation. Have some nominal fixed income makes sense, too, because nominals will do better in times of deflation.

  4. 5Flavors says:

    Right or wrong, I sold some of the 2024 rung of my TIPS ladder that was purchased at auction. Seemed that inflation would need to be over 6% to break with interest to maturity at that premium and as you say, TIPS returns have been pretty paltry. Still have lots of tips and ibonds just in case. So much inflation talk in the media now, fells like yet an other media driven frenzy-or not…

    • pankr003 says:

      Would anyone care to tell me what people can get for a TIPS if they sell it. Treasury Direct may say people paid $10,000 and the TIPS is now worth $10,500 but what would somebody currently pay to buy the TIPS. I realize I am being simplistic but am curious. Thanks for any answers here.

      • Tipswatch says:

        Pankroo3, if your TIPS is being held at TreasuryDirect, you can’t sell it there. You will need to transfer it to a brokerage account or other financial institution and then sell it. Here are instructions on that: https://www.treasurydirect.gov/indiv/research/indepth/tips/res_tips_sell.htm

        The value you see at TreasuryDirect is the par value plus accrued inflation, but it is not the “market” value of the TIPS, which might be higher or lower. If you are holding the TIPS to maturity, you can ignore the market value. But if you plan to sell it, you need to know that amount. You can use the Wall Street Journal’s “Current Values Page” to get a good estimate of the TIPS’ value, if you know the maturity date: https://www.wsj.com/market-data/bonds/tips

        The decimals on that page are actually xx/32nds of a dollar, so don’t get confused by that. So let’s say you own $10,000 of the TIPS maturing Apr 15 2026. It has a market value of about $109.87 per $100 of par value, and accrued inflation of about 0.07%.
        That $10,000 of par value is worth about $11,057. (Its original auction price was $109.41 back on April 22.)

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