Inflation Decelerates

Before I get into the latest market moving headlines this week, I want to emphasize the recent movement in inflation. While I have mentioned the decelerating inflation in passing, I didn’t give it enough coverage considering the large movement the CPI had in March. As you can see from the chart below, the core CPI was negative on a month over month basis for the first time since January 2010. Even in recessions the core CPI turning negative is a rare event. The bond market had been forecasting the decline in inflation since March. This isn’t a one-off situation because inflation is decelerating, but I wouldn’t expect to see more negative reports. Once again, I will say the Fed raising rates in this environment doesn’t make sense.

The CPI including energy and food fell 0.3%. This was caused by the decline in gas prices. Part of why inflation had moved up starting late last year was the base effect of oil price increases and the optimism surrounding potential GOP fiscal policy boosts. I have been forecasting this decline as the third reflation trade of this cycle has ended with both catalysts rescinding. One of the factors which pushed down core inflation was declining costs in wireless smartphone services. As you can see from the chart below, the core CPI on a year over year basis fell to 2%. Technically that’s exactly where the Fed wants inflation, but the deceleration is a problem because it had taken so long for it to get above 2%. It rose above 2% in February for the first time since 2012.

French Presidential Election

This trend of decelerating inflation growth had hurt financials recently as the major banks didn’t rally on good results and Goldman Sachs fell on disappointing ones. However, this trend was ignored Monday because of the French presidential election which saw Macron and Le Pen make it to the second round of voting on May 7th. The financials led the charge with Bank of America up about 4%. The XLF financials ETF was up over 2%. As I forecasted, Macron’s chances of winning increased after making it to the second round because he wins in polls against Le Pen.