Onset of summer greeted with soaring prices
- June 1, 2021
Corporates | Kennett Square, PA
Many Americans celebrating Memorial Day weekend encountered sticker shock as they got back to buying items they haven’t purchased for a while. With prices up 3.1% and expected to keep rising for much of the summer, alarm bells have started ringing, giving the Fed plenty to think about.
Renewed services demand fuels inflation
With the unofficial start of summer and over 50% of the adult population fully vaccinated, Americans are venturing out again, driving a surge in consumer spending fueled by fewer restrictions and higher household savings. Consumer spending rose 0.5% in April (MoM) with spending on services, dining, and travelling finally picking up.
This spike in demand is starting to stoke inflation with the Core PCE index (a measure of inflation closely watched by the Fed) rising 3.1% last month compared to a year ago, posting its largest YoY increase since the 1990s and raising new alarm over rising prices and the potential for the U.S. recovery to overheat.
Home prices are surging as well. The S&P CoreLogic Case-Shiller National Home Price Index rose 13.2% in March, which marked the highest annual price growth rate since December 2005. The median price of a new home sold in April was $372,400, up 20.1% from a year earlier, the strongest annual gain since 1988.
Changing economic picture prompts Fed to consider action
The rise in inflation indicators and falling short-term rates are raising substantial issues for the Fed to ponder and have sparked speculation amongst market participants about potential Fed actions.
Yields on Treasury bills that mature in one year or less and the rate at which investors swap Treasuries for cash in the repo market have dipped below zero due to a glut of cash in the financial system from the Fed’s asset purchase program and lack of options to park that cash. This has prompted the Fed to expand access to its reverse repo facility (which provides a 0% rate) and lift limits on the amount of cash financial institutions can store at the central bank from $30bn to $80bn to drain liquidity from the system and slow down the downward drift in short-term rates.
So far, the Fed’s stance on inflation has been that they expect it to be transitory and have not considered policy tightening yet. However, this past week, after a strong initial jobless claims report and the above factors likely top-of-mind, members of the Fed indicated they are “talking about talking about tapering,” which could signal a shift in their existing stance and monetary policy. As the dialogue around short- and long-term rates starts to show signs of uncertainty, many corporates are closely monitoring the rate environment and their organizational exposure profile.
The Nonfarm payrolls for May will be closely scrutinized when released this week after last month’s disappointing numbers. Market participants will also closely watch Fed chair Jerome Powell’s speech on Friday to understand his take on new inflation data.
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Transactions in over-the-counter derivatives (or “swaps”) have significant risks, including, but not limited to, substantial risk of loss. You should consult your own business, legal, tax and accounting advisers with respect to proposed swap transaction and you should refrain from entering into any swap transaction unless you have fully understood the terms and risks of the transaction, including the extent of your potential risk of loss. This material has been prepared by a sales or trading employee or agent of Chatham Hedging Advisors and could be deemed a solicitation for entering into a derivatives transaction. This material is not a research report prepared by Chatham Hedging Advisors. If you are not an experienced user of the derivatives markets, capable of making independent trading decisions, then you should not rely solely on this communication in making trading decisions. All rights reserved.21-0156
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