Hello Inflation, Good to See You

As I finish up my review of last quarter’s earnings reports, signs of rising costs are increasing. In response, more companies are cutting expenses and raising prices. How strong and sustainable this trend becomes, I don’t know, but it is noticeable.

Yesterday’s PPI report and today’ CPI report confirmed what I documented last week (link). In my post summarizing Q4 2016 operating results, I noted a number of companies I follow are reporting inflation is on the rise. I also provided several company-specific examples supporting my observation.

I don’t depend on government data to form my macro opinions, but in this case I have to agree with the Labor Department’s recent assessment (at least the trend). Specifically, as of January, the consumer price index is up 2.5% year over year, with core inflation increasing 2.3%. Inflation is now above the Fed’s desired target of 2%. And this is before the highly anticipated $1 trillion in fiscal stimulus, massive tax cuts, and trade wars!

Janet Yellen yesterday stated she didn’t want to wait too long before raising rates. With equity prices and valuations above the past cycle’s bubble peak and with inflation clearly trending higher, is it possible the Fed has already waited too long? We’ve been in emergency monetary posture for over eight years. How much longer do they need?

For an absolute return investor waiting in cash equivalents for a better opportunity set, I’d really appreciate a raise Janet! Can you spare 50 basis points? I think many of us know why the Fed has been so patient in raising rates. Higher interest rates can incite financial instability and deflate asset bubbles. In effect, raising interest rates threatens the foundation of the current economic recovery – and that of course is asset inflation.

Although higher rates are probably not ideal for investors fully committed to one of the most expensive opportunity sets in the history of financial markets, they’re good news for investors who have been patiently waiting for The Great Normalization. Furthermore, higher rates resulting from rising prices could force much-needed discipline on central bankers. It’s very difficult for central banks to print more money when the problem is too much money.

I don’t necessarily like inflation. I know how destructive price volatility can be (just see consequences of past two asset bubbles). And I pay the higher consumer prices too. However, as an investor longing to invest again, I want central banks out of the asset price setting process. If it takes inflation to bring back free markets, then that’s what it takes.

Consumer Prices Up Most Since Feb 2013