By Alejandro A. Tagliavini *
From last week’s weaker-than-expected employment data, the Treasury bond’s yield fell sharply, the 10-year to a three-month low of 1.43% on Thursday – then rose on Friday to 1.45% – even after the government reported that the CPI rose 5% year-on-year in May, the biggest rise since 2008. By the way, borrowing costs tend to rise when inflation rises.
Precisely when the rise in the US CPI reached its highest level in the last thirteen years, the main stock indices on both sides of the Atlantic continued their upward momentum, although with not so firm or certain prospects, and several managed to arrive to all-time highs.
And as the CPI has risen over the past few months, U.S. government bond yields have decoupled, not keeping pace:
Source: Bureau of Labor Statistics, Bloomberg
So it turns out that real rates are stubbornly negative, the current gap between 10-year bond yields and the CPI has been more negative for only 10 months in the last 70 years, all of which were in 1974, 1975 or 1980:
This unprecedented decoupling, according to some analysts, is a clear sign that investors know the Fed will take a turn at the first sign of trouble, probably at the time the S&P falls 10%.
Others see a message because copper prices fell almost 8% since May 10 and many commodities seem saturated and wanting to go down. This, together with the decline in 10-year inflation expectations, seems to indicate that CPI -not real inflation- growth could slow down given not a recession, but a longer economic recovery and slower than initially believed.
This has spread to parts of the stock market, with the PHLX Housing Index and the Dow Jones Transportation Index recently falling roughly 13% and 6%, respectively, from their highs. The S&P 500 has swung both ways during this time. Next year’s earnings growth is expected to decelerate dramatically. Estimates of earnings per share (EPS) growth for the S&P 500 in 2022 are at 11.7%, according to the latest Refinitiv data, below expectations of nearly 17% in early January. Furthermore, a drastic reduction in the expected growth rate of 37% is estimated in 2021.
The recent price increase was mainly for basic goods and flight fares, something that is expected to be temporary. Food and energy prices have also contributed to the rise and that is why the base CPI, which excludes food and energy, remains just below 4%. On the other hand, the PCE (personal consumption expenditures) is at 3%, well below both the CPI and the base CPI, and this is the indicator the Fed uses the most to estimate inflation.
The reality is that the PCE is somewhat better as an indicator of inflation because it takes consumption habits into account. For example, if prices rise on certain items in the family basket, people usually change their habits and buy other or cheaper brands, so consumers do not necessarily end up spending more.
Anyway, on the other hand, Biden, has proposed an infrastructure plan of about USD 2.3 trillion, something that supposedly would boost the economy, but the proposal is finding it difficult in congress to be approved. And because of this some analysts believe the Dow Jones has not had the same upward momentum as the S&P 500 and the Nasdaq, since the infrastructure plan would mainly support the industrial sector.
During last Thursday’s session, the S&P 500 reached an all-time high at 4,249 points and fell on Friday and then resumed the upward path. On the daily chart we see an upward trend in the index, in the short term and, if it continues to rise, its next resistance could be at 4,300 points. To the downside, in the event of a bearish retracement, the 55-day exponential moving average (purple line) could act as support, just as it has on several occasions in the past:
By the way, so far, the injection of money by central banks has been phenomenal, reaching USD 100 Trillions two weeks ago:
For this reason, conservative, safeguard investments, have had a strong rise as seen in the global funds of raw materials and real estate that have yielded more than 20% so far in 2021:
Anyway, as for Argentina, on the one hand, the Government will not let the official dollar skyrocket – which grows at 1.2% per month compared to a CPI that does so at 3.5% – and will try to keep the CCL and the stock market dollar at bay, at least until after the elections. And it could fulfill it. The BCRA earned more than USD 4,000 million net so far in 2021 thanks to raw materials, especially soybeans, and today net reserves exceed USD 6,500 million.
By the way, the dollar gap began to widen in the last month. Between the wholesaler and the CCL a month ago it was 67% and today it reaches 73%. This pressure is also noticeable in the “blue” that is slowly awakening from the siesta caused by the sharp decline in the monetary issue at the beginning of the year. But this could change given the higher spending claims they envision from the political side.
Nobody believed him, but the truth is that due to the higher tax collection given the withholdings on exports, strengthened by the sharp rise in grain prices, and due to the new wealth tax, gave the Treasury an unthinkable amount of funds. At the same time managed to liquidate (something unthinkable in a «popular» government) strongly the expenses. For example, the funds for retirement and pensions would increase 30% year-on-year, far from the 46% forecast for “inflation”. Thus, the annual fiscal deficit would be 3% of GDP, when the 2021 Budget forecast 4.2%.
If spending is increased due to political demands, this could be financed with issuance, which would trigger inflation and, finally, the CPI that, obviously, the poor end up paying, especially if the tax pressure does not drop and, then, the rise in prices. If the aim is for the economy to grow, it should be deregulated so that it can expand, especially considering that the “soy miracle” could end when its price falls.
At the moment so far in 2021, the purchase of the dollars by people at the bank window has been falling month by month and in April only 46 M were acquired compared to the 4,000 M that they did in August 2020, when it hit highs. And the other dollars, including the “blue”, have remained practically stable so that even the durable goods collectors that increase with the CPI are gaining ground.
Thus, while the fixed terms deposits lose against the IPC -which gains against the dollar- the UVA fixed term offers a performance above the IPC, especially in the pre-cancellable modality that offers the possibility of canceling it after 30 days and offers a rate on the rise in the CPI, which is usually 1% per year.
Investing in Argentine equities is bold. In 2020, the shares had a very poor performance, trading today at very low prices, which is why good investment options are opened despite the economy that hardly recovers given the increasing weight of the State. In recent weeks, Argentine assets come off a major bullish rally. The vast majority of ADRs earn more than 8% and up to 45% in the last month. The volume grew 100% since March and some analysts expect the upward trend to continue, but, be cautious because the general trend of the stock markets is not clear, and much less the performance of the local economy.
The prices of raw materials come from going through an upward cycle that led to products such as oil or soy being at record values, but, as I said at the beginning, there are signs that they could be saturated given that the growth of the economies, with so much injection of inflationary money, could slow down. Soybeans reached USD 600 only a month ago in the Chicago market, but now it is at 550 per ton almost doubling that of 2020, so it was an interesting investment opportunity, but it is not clear if it will continue to be. Oil, which surpassed $ 70 this week for the first time in two years, could be a good investment since, even if economies are not growing as fast, the unavoidable lifting of ridiculous quarantines and other restrictions will necessarily absorb more movement, more oil.
* Senior Advisor at The Cedar Portfolio and Member of the Advisory Council of the Center on Global Prosperity, de Oakland, California