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Should We Fear Inflation?

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It was another wild week for the financial markets. Inflation was the fear factor that drove interest rates higher and created another tumultuous week in the stock market. The markets were bracing for two major inflation reports that would clue us in to how much consumer and wholesale prices increased. The first of two reports, CPI, threw the markets into a panic when all measures of the index rose more than estimated. Consumer prices surged 0.5 percent in January and were up 2.1 percent from a year ago. Apparel and motor vehicle insurance costs posted larger than normal increases, possibly pushing the index higher.

By the time the PPI report was released, the markets were knee deep in inflation fear. Wholesale prices also increased more than expected on all accounts, with the year-over-year rate up 2.7 percent. The less-volatile sub-index that excludes food, energy and trade rose 2.5 percent, the most in more than three years. This is one of three gauges the Fed considers when measuring inflation. Just like the CPI index, a few categories had unusually steep increases that may have pushed the index higher than normal. Hospital outpatient care prices rose 1.0 percent, the most in three years, and energy costs climbed 3.4 percent.

By the end of the week, the markets began to embrace the inflation story rather than fear it. Economists and market watchers began to agree the economy remains strong enough to withstand the recent increase in inflation. The renewed rise in prices is just another step toward economic normalization.

Other Key Indicators this Week:

Retail Sales – After a robust pre-holiday spending spree, the consumer took a break from spending. Retail sales fell 0.3 percent in January and were revised to flat from a 0.4 percent increase in December. It is not unusual for sales to slow at the beginning of the year. Sales were lower across the major industries. Unfortunately, the weak sales report was released the same day the strong CPI report was released, causing minor market heartburn.

Housing Starts – Construction activity on new homes increased 9.7 percent in January, the fastest pace since December 2016. The surge in activity came primarily from a 23.7 percent jump in apartment building construction. Single-family housing starts rose 3.7 percent. Permits for future building projects increased 7.4 percent, the most in over 10 years. Homebuilders remain confident about future single-family home sales, citing the pro-business political climate and tax cuts as incentives for continued growth in the housing market.

Strategically for Credit Unions:

The bond market spent the week adjusting to higher inflation levels and what that means for the Federal Reserve. The two-year Treasury note steadily climbed more than 10 basis points in preparation for a rate increase at the March FOMC meeting. At the other end of the curve, the 10-year Treasury note stabilized under 2.90 percent by the end of the week. Stocks recovered more than 65 percent of the recent sell-off.

Note: There will be no Behind the Numbers next week. Behind the Numbers will resume on March 2.

Sarina Freedland – Senior Investment Officer

Although this information has been obtained from sources we believe to be reliable, we do not guarantee its accuracy, and it may be incomplete or condensed. This is for informational purposes only and is not intended as an offer or solicitation with respect to the purchase or sale of any security. All herein listed securities are subject to availability and change in price. Past performance is not indicative of future results. Changes in any assumption may have a material effect on projected results.