Trade The Journey

Trade The Journey

Inflation slows, Rates Unchanged!

Good Afternoon, Traders, I hope everyone is enjoying their weekend and preparing for the week ahead. I want to wish the Fathers, a Happy Father’s Day. This past week, the market awaited the latest report on inflation and the Fed’s dot plot to see if there were any changes to the path of rates. The economy has remained resilient, and consumers still have the cash to spend even if that means borrowing to finance purchases.

While a soft-landing is probable, there is bound to be a slow-down at some point even if it doesn’t materialize into a recession. The Fed kept the rates unchanged at 5.25%-5.50%, which wasn’t a surprise. The effective Fed Funds Rate is 5.33%. The Fed Funds rate is the rate set by the Federal Reserve and is the target rate to guide economic activity. The effective Funds rate is the weighted average at which transactions in the Fed Funds market occur. It can also be thought of as the real-world cost of overnight lending between banks.

The market is pricing in the first twenty-five basis point cut at the September meeting with a 62% probability. November shows the probabilities evening out between a twenty-five to fifty basis point cut, with most of the weight towards a twenty-five-basis point cut. Treasury yields fell across maturities largely in response to the inflation reports.

After the ten-year nearly reached 5% as it rose quickly in April and late May to the 4.6% level, the ten-year pulled back to 4.2% to end this week. The two-year yield pulled back to 4.67% and the thirty-year yield is now at 4.34%. The table below provides a little more clarity on the recent path of yields.

Gold has pulled back from its high of $2,454 made in May and is now below its 50 SMA. Its 50 sma is acting as resistance, as Gold has been unable to break above it and is now at $2,348. Mostly likely influencing Gold’s recent performance is the recent surge in the dollar. The dollar, after drifting below its 200 sma, is now back above $105 and its 50 SMA, although it closed off its highs on Friday. The dollar is currently at $105.518.

Crude ended the week in a short sideways trend, just below its 50 and 200 SMA. Crude is currently at $78.40 but looks poised to move higher. Crude has support at the $77 level which has held in the past. Several factors could be influencing Crude’s performance like production cuts by OPEC+, positive economic data in the US, geopolitical tension in the middle east and demand outstripping supply.

Copper has yet to revisit its recent high of $5.199 but looks to be forming some support around the $4.44 level. Copper is currently at $4.49. Recently there have been some supply issues as China cut production and a copper mine responsible for a high level of production closing down.

The Federal Reserve as mentioned above, left rates unchanged. The Fed reiterated its stance on being data dependent, and believes that if the economy evolves as expected, 5.1% would an appropriate rate stance at the end of the year. The two factors that could cause the Fed to move towards cuts sooner than expected are, if the labor market were to materially weaken or inflation fall more quickly than expected.

Although inflation readings have been lower, a rate cut would gain more traction when inflation is moving sustainably towards 2% according to Chairman Powell. Non-housing services is still experiencing higher inflation, partly due to wages and the lag in shelter inflation. The banking system remains strong and well-capitalized. The labor market is coming to better balance due to an increase in immigration, supply of workers, and a stronger participation for workers between 25 to 54.

The FOMC’s economic projection remain cautious.

Around the world…

China’s inflation rate came in below forecasts and was virtually unchanged over the past year. Over the past month, it edged lower to -0.1%. China has struggled to revive its economy and the latest data echoes it.  Its PPI dropped 1.4% over the past year which slightly better than forecasted 1.5% fall.  Prices for consumer goods remained weak while the price of daily goods was unchanged. Its cost of means of production edged lower as did its mining and processing. Raw material prices edged higher. Over the past month its PPI rose by 0.1%.

New Yuan loans edged higher this past month as did its total social financial. Its outstanding loan growth expanded but a little slower than last month’s pace. Today, China will release its retail sales, house price index, industrial production, unemployment rate and make its 1-year MLF announcement.

In Japan, the final GDP growth rate over the past quarter were inline with forecasts at -0.5%. Accounting for a significant portion of Japan’s GDP is private consumption which has fallen over the past year. Consumers have pulled back on their spending due to higher prices and slower wage growth.  Capital expenditures weakened but government spending improved. Its price index grew by 3.4% over the past year.

Its sentiment indicator for the service sector fell further into contraction territory as spending slowed. The outlook among consumers also weakened as cost pressures remain. Foreign investment grew in stocks and bonds. Industrial production declined this past month and over the past year. Capacity utilization edged sharply lower this past month, from 1.3% to 0.3%.

The BOJ also convened for its rate decision and decided to leave rates unchanged at 0-0.1%. The BOJ plans to reduce bond purchases and allow its long-term rate to become guided by the market as its CPI is expected to improve slowly.

Not much data was released in the Euro Area except for industrial production which fell sharply over the past year.

Economic Insights

The NFIB Small Business Optimism Index rose to 90.5 but it still below its historical average of 98. Uncertainty is rising among business owners as inflation remains the central concern for businesses. According to the report, the small business sector is responsible for 40% of the GDP and employment.

Few owners plan to raise compensation and 42% of all owners reported that they had openings that they couldn’t fill. Labor quality is also a top concern, closely trailing inflation. Price hikes were mostly found in retail finance, construction and services. Owners are maintaining a cautious stance on inventory investment and a net negative 8% reported that current inventory levels are too low. Financing is becoming a problem for small business owners as rates remain high.

The May CPI report showed that inflation was unchanged and rose 3.3% over the past year, which was slightly lower than forecast.  Core inflation, which excludes food and energy, rose 0.2% over the past month and rose 3.4% over the past year. Falling energy prices contributed to the fall in the CPI in May. Energy prices fell 2% with energy commodity prices falling 3.5%.

The food index fell 0.1%, with food at home unchanged from the previous month while food away from home rose 0.4%. Food away from home rose 4% this past year.  Shelter continues to be a thorn in the Fed’s fight against inflation and is unchanged at 0.4%. Shelter has risen 5.4% over the past year. New vehicle prices fell 0.5% while used car and trucks prices rose 0.6% after falling the last two months. Motor vehicle insurance rose over 20% this past month.

The Producer Price Indexes (PPI) – May 2024 report, shows that the PPI for final demand decreased by 0.2% in May, following a 0.5% increase in April and a 0.1% decrease in March. Over the 12 months ending in May, the unadjusted final demand index rose by 2.2%. The decline in May was primarily driven by a 0.8% drop in the index for final demand goods, while prices for final demand services remained unchanged. Notably, the index for final demand energy fell by 4.8%, with significant decreases in gasoline prices (down 7.1%), diesel fuel, and jet fuel. Conversely, prices for final demand goods excluding food and energy rose by 0.3%.

For intermediate demand, the report indicates a mixed performance. Prices for processed goods for intermediate demand dropped by 1.5%, the largest decline since December 2022, largely due to an 8.0% decrease in processed energy goods. Unprocessed goods for intermediate demand fell by 1.8%, driven by a 6.6% decline in unprocessed energy materials. However, prices for services for intermediate demand edged up by 0.1%, with the index for trade services for intermediate demand rising by 0.7%. The data reflect ongoing volatility in energy markets and the broader economy’s impact on producer prices.

The U.S. Import and Export Price Indexes – May 2024 report showed that import prices decreased by 0.4% following a 0.9% increase in April, driven by lower fuel and nonfuel import prices. Notably, fuel import prices fell by 2.0%, influenced by declines in petroleum and natural gas prices. Nonfuel import prices also saw a reduction, largely due to lower prices for foods, feeds, beverages, industrial supplies, consumer goods, capital goods, and automotive vehicles. Over the past year, import prices rose by 1.1%, marking the largest annual increase since December 2022.

Export prices also fell by 0.6% in May after a 0.6% rise in April, marking the first monthly decline since December 2023. The drop was mainly due to lower prices for nonagricultural exports, which offset higher agricultural export prices. Agricultural export prices rose by 0.5% in May, driven by increases in wheat, fruit, corn, and meat prices, despite a 6.6% decline over the past year. Nonagricultural export prices decreased by 0.8% in May but showed a 1.5% increase over the past year.

Higher prices continue to put a strain on the finances of lower to middle income households. The University of Michigan Consumer Sentiment preliminary report showed that sentiment fell further, dropping several points for overall sentiment and current economic conditions. The index of consumer expectations edged lower but not at the same magnitude as the other indexes. Consumers await the presidential election, as sentiment continues to move lower. Year-ahead inflation expectations was unchanged at 3.3% while long-run inflation expectations edged higher to 3.1% from 3%.

Industrial production was virtually unchanged in April. Consumer goods production slowed but edged higher by 0.1%. Business equipment production fell 0.5%, its second consecutive month of contraction. Construction supplies production fell by 1% after falling by 0.1% the previous month. Materials production rose by 0.1%. Manufacturing output declined by 0.3%, with notable drops in the production of motor vehicles and parts, electrical equipment, appliances, and wood products.

However, nondurable manufacturing saw a modest decline of 0.1%, and other manufacturing categories, including publishing and logging, increased by 0.3%. The mining sector experienced a 0.6% decrease, primarily due to a significant 18.1% drop in coal mining output. In contrast, utility output rose by 2.8%, driven by increased demand.

Capacity utilization across all industries fell to 78.4% in April, down from 78.5% in March, and 1.2 percentage points below the long-run average of 79.6% (1972-2023). Manufacturing capacity utilization also decreased to 76.9%, which is 1.3 percentage points below its long-run average. Mining sector utilization dropped to 92.1%, remaining above its historical average but lower than in March. Utility sector utilization increased to 71.0%, showing improvement but still significantly below its long-run average.

Initial claims this past week came in above forecasts, at 242,000. This is the highest level since August of last year. The four-week moving average for initial claims rose to 227,000. Continuing claims for the week ending June 1, rose by 30,000 to 1.820 million, higher than the previous weeks.

The fall in yields was mostly likely good news for potential homeowners, as mortgage application volume rose 15.6% from the prior week. The refinance index rose 28% and the purchase index rose 9%. The share of applications for refinancing grew from 31.1% to 35.2%. The average rate for a thirty-year conforming loan fell five basis points to 7.02%. The average rate for a thirty-year jumbo loan fell four basis points to 7.18%.

Technical story:

*The forecasted Volatility is based on a moving average, weighted towards the most recent volatility move.

This past week’s cash-flow in Review:

It seems like my spending plan is non-existent, as I continue to spend money on frivolous things. I did make a couple of adjustments that should allow me to have more cash flow available like buying in bulk. I also brought a vape pen that’s suitable for cheaper refills instead of visiting 7-eleven every few days.

Once people around me found out where I worked, which is known for its high wages and exceptional benefits, I began paying for more things and outings. While I am happy I’m capable of taking on the added expenses, its also becoming a little excessive. This afternoon, I will be working on a budget that’s a little more accurate and based on my current spending patterns.

Grade: D

Reason: Little to no improvement

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