Inflation continues to fall. On a YOY basis CPI dropped from 4.96% to 4.13%. With this print, the probability of a Fed Pause went from 77% to 94%. Falling inflation rates are a result of A. more restrictive money or B. falling demand. This is not a binary question and there is a causal relationship. 11 months ago, we hit the highest rate of inflation as measured by CPI since 1981. This was the result of a 3 year period of the easiest money in the history of the data set (about 70 years). As of today, the real rate of interest, calculated as Fed Funds less CPI, has officially turned positive. Where will real rates go from here? The Fed is expected to pause and perhaps raise rates one more time. They have been very transparent in telegraphing policy, so this is credible and the market is discounting a 63% chance of a 25bps hike at the July 26th meeting. In the past a real rate of around 2.5% as been a level that has equated to recession. Is this the Fed’s end goal? Are they shooting to sail just underneath this level?

Now you need consider the likely level of inflation moving forward. Inflation is 4.1% and falling. How sticky will it be? 1-Year expected inflation is 2.65%. A Fed Funds Rate of 5% with inflation falling toward 2.5% puts us right at that 2.5% real rate number. I bet Powell wishes it was so easy.

 

Disclaimer: This information is presented for informational purposes only and does not constitute an offer to sell, or the solicitation of an offer to buy any investment products. None of the information herein constitutes an investment recommendation, investment advice or an investment outlook. The opinions and conclusions contained in this report are those of the individual expressing those opinions. This information is non-tailored, non-specific information presented without regard for individual investment preferences or risk parameters. Some investments are not suitable for all investors, all investments entail risk and there can be no assurance that any investment strategy will be successful. This information is based on sources believed to be reliable and Alhambra is not responsible for errors, inaccuracies, or omissions of information. For more information contact Alhambra Investment Partners at 1-888-777-0970 or email us at info@alhambrapartners.com.