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Markets turn south again after inflation hits another high point

A report on Friday showing that price increases hit a 40-year high in May caused a rout on Wall Street.

MANHATTAN (CN) — Any hopes that inflation hit a turning point were dashed on Friday as another report showing decades-high price increases spurred investors to again retreat into bear territory.

Minor gains on Wall Street earlier in the week were moderated by larger drops on Thursday and Friday, and by the closing bell all three indices had fallen noticeably, with the Dow Jones Industrial Average declining 1,508 points for the week, the S&P 500 208 points, and the Nasdaq 672 points.

The big hit for investors came Friday morning, as investors were dismayed by hotter-than-expected inflation readings, which showed prices increased another 1% in May, above analyst expectations. The report, released by the U.S. Bureau of Labor Statistics, showed that all items are up 8.6% from a year ago, while core items — discounting volatile food and energy — gained 6% in the last 12 months.

During that period, food prices — dinged recently by the avian flu outbreak and the hit to grain prices due to the Ukraine conflict — have increased more than 10% while gasoline is up 48%. The biggest increase over that period is fuel oil, which has risen by a mammoth 106%. Other sectors are seeing persistent double-digit percentage increases. Airline fares, for example, gained 13% in May after seeing a 19% increase in April and nearly 11% gain in March.

Some say the data actually masks the true height of inflation. Peter Boockvar, chief investment officer at Bleakley Advisory Services, wrote in an investor’s note that, “if rental inflation was calculated to reality, inflation would be 10%.” Boockvar predicts that services inflation is sure to follow the path set by rent. “The end result will still be sustainable, sticky inflation all through the year,” he wrote.

Rising inflation nearly guarantees the Federal Reserve will again raise interest rates by at least 50 basis points during its meeting next week, and some say it may even open the door to a 75-basis point increase. The federal funds rate currently is set at 0.75% to 1%.

Michael Pearce, senior U.S. economist at Capital Economics, wrote on Friday that “there is very little in [the BLS] report to suggest that inflationary pressures are easing,” and that headline inflation likely will remain around 8.6% in June. “Together with the continued strength of the latest activity data, that bolsters the argument of the hawks at the Fed to continue the series of 50bp rate hikes into September and beyond, or even to step up the size of rate hikes at coming meetings.”

James Vogt of Tower Bridge Advisors warns that the Fed’s actions may not be enough as the Ukraine conflict has displaced inputs of oil and gas. “No amount of Fed or government intervention will get the millions of barrels we need in a growing economy,” he wrote on Friday. “The only thing they can control is to make sure the economy isn’t growing by tightening the money spigot,” Vogt added. “The consumer will spend less next year than in 2021 if they have their way.”

The United States is not the only country facing price increases and related interest rate hikes. On Thursday, the European Central Bank confirmed it was raising interest rates by 0.25% during its meeting next month, citing surging energy and foot prices — due to the impact of the war in Ukraine — as the reason for spiking inflation. Inflation among European Union countries rose to a record high of 8.1% last month.

The central bank stated it would likely raise interest rates again in September, noting that “the pace at which Governing Council adjusts its monetary policy will depend on the incoming data and how it assesses inflation to develop in the medium term.”

As a result of the ECB’s decision, European markets plummeted. Indices in Germany and France fell 1.7% and 1.4%, while the pan-European Stoxx 600 declined 1.3%.

Stocks abroad were already floundering due to the release Tuesday of the World Bank’s economic forecast, which predicts global growth to drop to 2.9% this year, a big drop from the previously anticipated 4.1%. In 2021, global growth had risen to 5.7%.

The expected drop is just as pronounced in advanced economies, such as the United States and in Europe, which the World Bank forecasts to fall from 5.1% last year to 2.6% this year. In 2023, the World Bank forecasts growth to moderate to 2.2% among those countries.

“It shouldn’t be a surprise that the outlook for global economic growth significantly deteriorated from January to June of this year,” Morning Consult chief economist John Leer said in a statement, citing the war in Ukraine and supply-chain problems. “Given the rapid deterioration in economic conditions since the start of the year and growing policy uncertainty, I wouldn’t be surprised if these projections are significantly revised again before the year is over.”

Also on Friday the University of Michigan’s preliminary consumer confidence survey came out, showing another decline to a new low point. In May, the index fell from 58.4 to 50.2, its lowest point since the survey began in the late 1970s. Worse still, the survey’s five-to-ten-year inflation expectations jumped from 3% to 3.3%.

Inflation, once again, remained the dominant theme in the survey, with nearly half the respondents saying their negative views on the current economy is tied to price increases. “Half of all consumers spontaneously mentioned gas during their interviews, compared with 30% in May and only 13% a year ago,” the survey states.  

Not everybody was taken aback by the survey, though. “We wouldn’t get worried about this index,” wrote James Knightley, chief international economist at ING, noting that recent surveys by The Conference Board paint a rosier picture of consumer confidence.

“One crumb of comfort — neither survey has a great relationship with consumer spending with consumption set to surge in [the second quarter] based on April data already published and ongoing strong people mobility data around retail and recreation in May and early June,” he wrote, adding that politics also plays a part in the surveys. “This could quickly reverse come the mid-term elections.”

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