Inflation maintains upward climb amidst resilient labor market
Stocks fell and bond yields rose after annual headline inflation climbed to its highest rate in 40 years. Seasonally adjusted initial jobless claims continued their downward trend for the third consecutive week as the labor market appeared resilient despite the disruptions created by the COVID-19 omicron variant.
Inflation continues to rise
The most recently published CPI release revealed a 7.5% annual increase in prices (the highest since the period ending February 1982), driven primarily by increases in food, energy, and shelter indices. Most notably within these component categories were the indices for meat, poultry, fish, and eggs (rising 12.2% YoY); and electricity (rising 4.2% in January alone), with component indices under the shelter index increasing steadily across the board. Core inflation rose 0.6%, the seventh time in the last 10 months it has increased by at least 0.5%.
Markets react to inflation news
Following the publication of the inflation data, the S&P 500, Nasdaq Composite, and Dow Jones Industrial Average dropped after a mid-week rally. St. Louis Fed Chair James Bullard suggested the central bank raise rates by 100 bps over the next three meetings, further contributing to the slide by major stock indices. Meanwhile, the 10-year U.S. Treasury bond yield rose past the 2% mark for the first time since the summer of 2019. Expectations for a 25-50 bps hike at the March Fed meeting quickly shifted to a 50-75 bps hike in response to the inflation data as well, according to CME Group’s FedWatch Tool.
Leading up to the Fed’s meeting, expect to see further market volatility if data from the January personal consumption expenditure report, February monthly jobs report, and CPI report bear similar news. The current level of interest rate volatility is driving many corporates to evaluate their risk exposure profiles at both the short and long end of the curve. While the market is pricing in increasing certainty around short-term rate hikes, volatility around long-term rates has prompted an increasing number of discussions around hedging future fixed-rate debt issuances as well.
Labor market stays tight, unemployment down again
New applications for unemployment benefits fell for the third consecutive week last week, suggesting a rebounding labor market, proving resilient despite setbacks from the omicron variant. Seasonally adjusted initial jobless claims for the week ending February 5 dropped to 223,000 from 239,000 the previous week.
While a highly competitive labor market has enabled generally positive consumer confidence and flexibility of employees to seek better, higher-paying jobs, the upward pressure on wages has not matched the climb in inflation. This could be partially due to the impact of supply-chain disruptions caused by omicron outbreaks in the past few weeks, impacting inflation more than wages. As inflation growth continues to outpace wages, all eyes will be on the Fed in the coming months.
The week ahead
Further updates to personal consumption expenditure and job reports may provide further insight into the Fed’s course of action come March. Companies can expect increased volatility in the capital markets as investors adjust their positions in response to recent inflation numbers. Low unemployment and rising wages coupled with ever-rising price levels will continue to put additional pressure on the Fed, raising tensions domestically and internationally as countries react to U.S. rate hikes even amidst continued unrest in Russia and Ukraine.
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