The Disinflation/Deflation Issue
We got lots of macro news this week featuring lower levels of inflation (disinflation) and in some cases, lower prices (deflation). Long-term, DKI continues to believe that excessive Congressional spending and the ensuing currency creation (dollar printing) will lead to long-term inflation and long-term higher interest rates. For now, there is increasing evidence that consumer demand is slowing and price increases are abating. Is that enough to keep the Fed from hiking again? The market misreads $WYNN earnings and Inside Asian Gaming has the perfect graphic to illustrate it.
This week, we’ll address the following topics:
- CPI .1% below expectations excites the market, but is that based on a real number?
- PPI signaling deflation – maybe.
- The American consumer takes a breather – maybe.
- Deflation vs Disinflation vs $WMT results.
- Problems at $WYNN not evident at $LVS. The market got this one wrong.
Ready for a new week of lower prices? Let’s dive in:
1) CPI Slightly Below Expectations Excites the Market:
The October CPI of 3.2% was .1% below expectations and flat from the prior month. This was an improvement, but with caveats. The Core CPI, which excludes food and energy, was also .1% below expectations, but is still double the 2% target (which itself is 2% too high). While inflation is subsiding, some of the details in the CPI calculation aren’t credible. Food inflation came in at 3.3% with food at home up only 2.1%. If your grocery bill is up only 2% in the last year, please let me know. I can’t find anyone who believes that’s even close. While last year’s incredible health insurance adjustment is complete, that part of the index is now at levels last seen in 2018. If your health insurance expense is unchanged in the last five years, you might find the CPI believeable. The rest of us have some doubts.
Definitely better, but we have some questions on accuracy.
DKI Takeaway: The market was up huge post announcement as a lower CPI means the Federal Reserve is less likely to raise rates again. DKI notes that the excitement was caused by the CPI and Core CPI coming in .1% below expectations. The US Bureau of Labor Statistics is not capable of measuring national inflation in a country this large to anything approaching .1% accuracy. Add to that the practice of constantly adjusting CPI components in favorable directions, and there are huge changes in market values based on manipulated inaccurate data.
2) The PPI Signaling Deflation – Maybe:
Continuing this week’s theme of improving inflation data, the Producer Price Index (PPI) came in at 1.3% vs last October. Of greater significance, October prices were down .5% from September. Excluding food, energy, and trade services, Core PPI was up 2.9% for the year and .1% for the month. Following the below-expectations CPI rise, the market rose again on the monthly decline in producer prices.
Better, but not as much as many thought.
DKI Takeaway: Fears of a potentially weaker economy are causing energy prices to fall for now, and that’s the primary reason the PPI was down and was lower than the Core number. Despite high consumer spending all year, the PPI tends to be a good predictor of coming decreases in demand. Some of the retail results reported this week support that narrative as well. We’ll note that lower inflation caused by higher unemployment and lower demand may not result in higher stock prices as we could see lower interest rates (temporarily) coupled with a recession.
3) The American Consumer Takes a Breath – Maybe:
Continuing with this week’s trend of lower prices and reduced demand, retail spending was down by .1% in October relative to the prior month. Part of that is lower energy costs, and part is reduced demand for big ticket items like cars and furniture. One reason for that is many people finance those large purchases, and with higher interest rates, the monthly payments are higher than a year or two ago. There is a bit of a catch – see the charts below.
Down from last month.
Can you see the problem here?
DKI Takeaway: There’s no question that a lower CPI, a lower PPI, higher unemployment, and, a reduction in retail sales all indicate a slowing economy complete with reduced demand. However, take a look at the second chart above. Prices and spending have risen so much that even with this month’s decline, spending is still at high levels. Despite that, with spending down, trucking rates down, and other signs of a weaker consumer, this isn’t great timing for the holiday shopping season which officially starts this week.
4) Deflation vs Disinflation:
All year, DKI has been critical of the market’s excitement about disinflation which is a change in the rate of change. For those of you who don’t remember your high school calculus lessons about second derivatives, that simply means that we’ve had prices continuing to rise, but at a slower rate. That’s great for finance professionals, but not so much for the average American. Imagine your weekly grocery bill going from $100 to $120 in year 1 and then up to $130 in year 2. Now imagine someone is telling you you’re better off due to the “disinflation”. Sure, the rate of change is down, but the price level is higher and your finances probably worse. To make life more affordable, most Americans need deflation which is a reduction in the price level.
Disinflation isn’t enough. Most people need a reduction in prices.
DKI Takeaway: Given its huge size and wide range of products carried, Walmart ($WMT) is often a good proxy for the health of the American consumer. This week, the company reported an increase in comparable store sales; but also, noted that the prices of some goods are DOWN from last year. Walmart is passing on some of those savings to consumers. There has been a shift in spending from goods to services over the past couple of years, but a shift from disinflation to deflation is still a welcome change for many people. Recapping the takeaway from all of the above: the Fed is probably done raising rates for a while.
5) Problems at $WYNN Not Evident at $LVS:
When Wynn Resorts ($WYNN) announced earnings last week, the stock quickly fell 10% and ended the day down almost 6%. Investors were concerned about performance at one of the company’s Macau casinos. That weak performance pulled competitor Las Vegas Sands’ ($LVS) stock down for the day. The market often reacts to bad news at one company by taking down the entire sector, but let’s take a look at this chart from Inside Asian Gaming:
$WYNN has lost share…to $LVS!
DKI Takeaway: Compared to pre-pandemic levels, Wynn has lost almost 1% market share. Continuing as Macau’s largest gaming operator, Las Vegas Sands (which now owns no properties in Las Vegas) grew share by almost 4%. $LVS is growing, taking share from $WYNN among others, and rapidly approaching pre-pandemic performance. Sometimes, the market’s first reaction isn’t the correct one.
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