May US CPI: Headline Acceleration Hides Monthly Cooldown

The US Consumer Price Index (CPI) inflation rate jumped to 4.2% y/y in May, up from April’s 3.8% y/y and sparking another round of inflation fear.^[i] We saw handwringing about higher living costs eating all of the last year’s wage increases. We saw murmurings about potential Fed rate hikes and warnings that higher inflation will raise society’s inflation expectations and make them a self-fulfilling prophecy. And we saw some jollier analysts noting the inflation rate may be peaking, given oil prices are down -34% from recent highs.^[ii] For stocks, we reckon all of this is beside the point. Markets move most on surprises, and nothing in this inflation report was new or surprising. Nor did it hint at bad surprises to come, despite Wednesday’s market drop. Stay cool and remember coincidence doesn’t mean causality.

While accelerating inflation was jarring to many, under the hood, much of the report marked an improvement from April. Month over month, price increases slowed from 0.6% in April to 0.5%, retreating again from March’s 0.9% rise.^[iii] The core inflation rate (which excludes food and energy) may have inched up year over year from 2.8% to 2.9%, but on a monthly basis it slowed from 0.4% m/m to 0.2%.^[iv] Core goods inflation held steady at 1.1% y/y and actually fell -0.1% m/m.^[v] Food price gains slowed from 0.5% m/m to 0.2%. Excluding energy, services price gains eased from 0.5% m/m to 0.2%.^[vi]

Tie together all the numbers in that prior wall of data (sorry), and you see a clear theme: Higher energy and input costs aren’t bleeding into other goods and services. That defies one of the major inflation warnings accompanying the war in Iran’s outbreak. Analysts warned that it wasn’t just gas prices that would hit American pocketbooks, but also every consumer good with petrochemical feedstocks. Shoes (synthetic rubber). Clothes (polyester). Cosmetics and personal care products (mineral oil and plastic packaging). Gadgets (helium). Food (nitrogen fertilizers). Jackets and handbags (synthetic leather). Paint (synthetic polymers). And so many more. All of these were supposed to be surging. They aren’t.

Nor will they, most likely, and not just because oil and natural gas prices have eased, reducing the cost of all their many byproducts. Simply, companies lack pricing power. Wednesday’s inflation report coverage demonstrated as much, highlighting how consumers are cutting back on discretionary purchases, switching to private-label goods and shopping at discount stores. Many are shopping closer to home to cut fuel consumption. This isn’t 2022, when the massive wall of COVID-era monetary “stimulus” gave Americans the financial firepower to fund fast price hikes. Back then, broad M4 money supply had recently surged more than 30% y/y.^[vii] Now it is growing just 5.9% y/y, matching prepandemic trends.^[viii] Those trends didn’t include hot inflation.

Today’s inflation fears try to have it both ways—generally a sign a fear misses the mark. People continue to bemoan allegedly tapped-out consumers. But you can’t have hot inflation and a tapped consumer base. Inflation always erupts from too much money chasing too few goods and services. If consumers are tapped, it is a sign there is too little money in the system, not too much. Genuinely tapped consumers would indicate there is zero tinder for hot inflation.

To us, consumer conditions look mostly mid, meh, fine. Benign money supply growth and overall healthy household balance sheets suggest people in aggregate are doing ok, despite the very real struggles those on low and fixed incomes face. That meshes well with recent months’ decent consumer spending growth. Not hot, not gangbusters, just trudging along. That is a fine backdrop for markets, which thrive on the gap between reality and expectations, just as a stealthily improving inflation report is. Not an earthshattering new positive, mind you, but another confirmation of what markets were quietly pricing in before volatility resurged last week.

So we repeat: Stay cool. As we noted last week, short-term volatility kicks up at any time, for any or no reason. It is a call for calm, cool assessment, not a call to action. Bear markets generally start with a whimper, not a bang. Sharper drops are usually fleeting. Painful, but fleeting, part of the price we all pay for markets’ long-term returns.