Global markets experienced some modest pressure over the past week, but managed to finish the period on a stronger note. More noticeable was the move in volatility, driven by an issue that markets should have been largely prepared for: inflation. Monthly inflation readings in the U.S. came in stronger than expected, and predictably reignited the debate around whether this will be a relatively shorter-term or longer lasting phenomenon. We discuss this a bit more below.
This past week was a good one with respect to the progress seen in Canada. The country’s 7-day average rate of new daily infections stands at 6,700 versus the 7,800 from the week ago period. There were encouraging and relatively strong declines in infection trends across a number of provinces, led by British Columbia, Quebec, Ontario, and Alberta. Elsewhere, Saskatchewan and the Northern Territories saw modest declines, while Nova Scotia finally saw a slowing in the rate of growth in new infections. Manitoba did not have a good week as its average new daily infections jumped significantly and it recently reported its largest ever number of new daily infections. Nevertheless, the country experienced a relatively broad decline across a number of provinces which is an encouraging sign that the third wave may now be slowing more meaningfully.
Inflation…. Shorter-Term or Longer Lasting?
This past week, the U.S. consumer price index (CPI), representing a basket of consumer goods and services, was released for the month of April. The update suggests prices rose by 4.2% versus the year ago period, well ahead of estimates and the highest increase in year-over-year price gains since 2008. Excluding food and energy, which can be more volatile, the so-called “core CPI” rose by 3.0%, still well above expectations.
There’s reason to believe these price pressures will continue, at least over the next few months. We are still lapping the year ago period where economies were nearly shut and inflation was particularly weak. These so called “base effects” will continue to distort the year-over-year comparisons for a little while longer.
Supply chain issues present another dynamic that has the potential to exacerbate pressures over the intermediate-term. This is particularly true with semiconductors that are nowadays used in everything from microwaves, to computers, mobile phones, cars, and watches. The “chip” industry has been struggling to meet high demand from the manufacturers of these products, and prices have been on the rise as a result. Commodity prices have been increasing too, and there’s reason to believe that these trends may continue given a strong housing market, the accelerating electrification of cars, and the increasing drive to alternative energy production, among other trends, which is spurring demand for everything from lumber, to copper, and other base metals.
The key question is whether the pressures above will prove to be short lived, or more durable and sustainable in nature. The distortions caused by the onset of the pandemic last year should inevitably fade. Even the supply chain challenges may subside over the next year or two as more manufacturing capacity comes online. The same can be said for the supply of some commodities, as producers may inevitably raise production and expand capacity to take advantage of higher prices, as they often do.
On the employment front, job openings have risen and some businesses have reported difficulties filling roles. But, that may also be distorted to some extent by government aid that has left some unemployed workers less incentivized to hurry back to the job market. The U.S. economy is still a year, if not more, away from reaching full employment. It is only at that point that we would expect to see the potential for durable wage pressures to surface. In other words, the employment picture does not yet appear to be a meaningful driver of pricing pressures.
Overall, the inflation that investors were anticipating appears to have arrived. We expect the next few months to be noisy, but the bigger test will come later in the year when the year-over-year comparisons should be less distorted and some of the supply chain issues may be less pronounced. We are not convinced that longer-term inflation is upon us, but we acknowledge that the combination of extraordinary fiscal stimulus and extremely accommodative monetary policy could eventually foster such an environment. It is something we expect to continue to monitor as we move through the rest of the year.
Market Decline and Recovery Results
The peak-to-trough numbers for the COVID-19 market decline and subsequent recovery are provided in the table below, as of today's closing prices.