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Inflation is not over yet
Despite the general consensus and sentiment on this month’s good inflation news, a higher-than-expected US August consumer price index (CPI) derailed any short-term upside momentum. for risky assets under construction in the last week. As a result, stocks, bitcoin and credit yields exploded with some volatility today. The S&P 500 index closed down 4.3% with bitcoin following after a 10% gain plus a downside move. Last this happens for stocks as of June 2020.
It was a similar event to what we saw last month for the July data, but opposite and to a greater extent. Markets welcomed the trend loosely confirming last month’s peak inflation, but today’s data suggests otherwise. Now, we look to the broader market for risk and rates over the next few days for confirmation of this new downtrend or some relief with Consolidation expected tomorrow night. .
Both headline and core CPI beat consensus positioned expectations for a monthly deceleration. Instead, we see both headline and core CPI increase month-on-month by 0.12% and 0.57% respectively. To put it more simply, inflation has yet to be beaten and much work remains to be done (or attempted) on the monetary policy front. The Cleveland Fed’s Inflation Forecast pretty much nailed their August forecast.
While we did see some inflation in energy commodities ease, it was not enough to offset the growing inflation in the services sector. Higher and higher wage inflation remains an important part of inflation that has not yet subsided. Housing inflation is also still an issue and has not shown a downward trend. Inflation and housing prices are often the last to fall into a pending deflation and/or recession. Rent inflation (aka owner’s equivalent of rent (OER)) is a key component that can sustain CPI prints for longer as it typically has a lag of six to nine months .
In general, the inflation picture seems to be quite stable and expanding. Based on statements from the Federal Reserve over the past few months, it is a clear sign to maintain positive monetary policy through rate hikes.
Immediately after the release of the CPI data, stocks and bitcoin started selling and the dollar skyrocketed. The price action of asset classes is less about inflation itself and more about market expectations for future monetary policy from the Federal Reserve.
Interest rate expectations immediately rise to new yearly highs, with the market currently pricing the Fed Funds rate at 4.46% for December this year, nearly 200 basis points below the range. Current target interest rate is 2.25-2.50%.
In particular, Bitcoin has suffered a major downturn in open interest as traders speculate on peak inflation by turning to long-term futures contracts that are now mass underwater.
The drop in stablecoin open interest is greater than 30,000 bitcoins from the release of the CPI data until the closing of the legacy markets. Assuming most of the drop in open interest has been on long-closed positions, the market faces about 25% of MicroStrategy’s bitcoin hoard under selling pressure for several hours.
With that said, we are as guilty as ever in a moment of final surrender that has yet to happen in global financial markets. Long-term investors should not fear downward volatility, but should embrace it, understanding the unique opportunity it provides to buy high-quality assets at high selling prices.