August CPI Is 3.7% - Deep Knowledge Investing Analysis Of Today's CPI Report - Higher Than Expected

This piece was originally published on September 13th, 2023 at Deep Knowledge Investing.

Overview 

Today, we got the August Consumer Price Index (CPI) report. It showed an overall increase of 3.7% in the last year and .6% vs last month. This above expectations of 3.6% and an acceleration over last month’s 3.2%. The Core CPI which excludes food and energy was up 4.3% for the last year and up .3% from last month. That monthly figure is above expectations of .2%, and is still more than double the Fed’s 2.0% target. The core number has improved (but is still too high) while the all-items CPI has accelerated on higher energy costs (as DKI warned in earlier pieces). Let’s go through the details:

CPI ticking back up. The Fed still needs to cut the red line in half.

 

Real interest rate (fed funds - CPI) now heading back down again; unless the Fed raises rates.

Food 

Overall food pricing was up 4.3% with food at home up only 3.0%. We’re still skeptical. The food part of the CPI has been hugely understated for almost two years, and we’re convinced that anyone compiling these numbers hasn’t been in a grocery store in years. Given recent weather issues, reduced fertilizer availability, and logistics issues in Ukraine, we expect that food pricing will rise in the next few months. This would increase the reported CPI, but not affect the Core calculation. (DKI wrote the same thing last month. Fortunately, further food price increases are taking more time to appear than we expected.)

Energy 

Energy has been the primary reason the CPI has come down so much this year. It’s not that energy prices are cheap; but rather, that those prices are being compared with last year’s spikes. Total energy prices were down 3.6% with gasoline down 3.3% and fuel oil 14.8%. These prices were down substantially more in recent months. Again, we point to the White House’s decision for the second year in a row to roll into hurricane season with the strategic petroleum reserve (SPR) at 40-year lows. Tired of the White House delays in replenishing the SPR, the Saudis have extended production cuts of 1MM barrels a day into September. Russia is now also joining in and adding to OPEC production cuts. Both countries have said they’ll continue these production cuts for the coming months and the White House is facing price spikes every time they try to refill a small part of the SPR. DKI can’t tell you the price of oil next week or next month, but long-term, we’re seeing restrictions on developing new supply combined with 8 billion people who have increasing energy demands. That makes us bullish on the long-term price of oil and energy. (We hate living with inflation too, but at least we can make money from the problem by investing in the right places.)

Vehicles 

New vehicle pricing was up 2.9% and used vehicle pricing was down 6.6%. These have been volatile categories. We’d also note that the decrease in used car pricing is off of a huge increase. There’s clear improvement, but prices are still well above the pre-pandemic levels:  

Still expensive but improving.

Services

Services prices were up 5.9% a slightly smaller increase than last month, and still very high. This category is an issue for the Fed because much of the increase is caused by higher wages. Labor is still in demand despite unfilled jobs falling below 10MM last month. The Fed is actively trying to restrict wage growth and raise the unemployment rate to take pressure off of this part of the CPI. While gross domestic income (GDI) is starting to indicate a recession, the overall employment market remains strong. We also note that the services CPI is artificially low right now due to a huge adjustment to health insurance pricing. This means that while your health insurance costs are up, for another few months, the Bureau of Labor Statistics will pretend those costs are down. This has the effect of temporarily reducing the reported CPI. That effect expires in one more month.

Shelter (a fancy word for housing) costs were up 7.3% and represents the largest category of the CPI. Most of today’s 3.7 CPI increase is due to this category alone. We’ve commented on housing dozens of times in the past year, and have been surprised at the resilience of the market. While commercial property prices are declining in many places, housing has remained strong.

Originally, we expected higher interest rates which lead to higher mortgage payments to cause housing prices to fall. Instead, people with favorable mortgage rates want to stay in their homes because buying a cheaper home at a higher mortgage rate can mean higher monthly payments. That’s kept supply off the market and ensured continued high pricing. The commercial real estate market isn’t captured in this calculation, but is faring much worse for property owners and the banks that own those loans or mortgages.  

This is not the disinflation we keep hearing about in the press.

Analysis 

The market was excited by disinflation. That’s a reduction in the rate of change of the CPI. It means that while prices are still increasing, they’re doing so at a slower rate. That’s great for Wall Street analysts and those who fondly remember their high school calculus. If you’re working and trying to make ends meet, it looks like this:

 

Heading back up at an accelerating rate.

Without the massive y/y price decreases in energy, and with a continually strong housing market, the Fed (and US consumers) are now facing an increase in the rate of inflation. While there are many complaints of “historic” Fed rate increases, the core number remains both sticky and high.

Conclusion

Despite many people complaining about draconian Fed rate hikes, the CPI is still high, services inflation is still very high, and energy prices have stopped plummeting. The stock market indexes were encouraged by the lower rate of inflation, DKI wouldn’t be surprised to see another rate hike this year.

GB@DeepKnowledgeInvesting.com if you have any questions.

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