Dear Friends,

I hope your weekend was a good one.

Thus far, the month of November is proving to be one of the stronger periods of the year with global equity and bond markets notably higher. Those gains have made up for some of the weakness witnessed during the first part of the fall. There may be a few factors that have driven the strength of late, but none are more important than inflation trends, which continue to show signs of abating. We discuss this more below.

The most recent U.S. inflation reading, for the month of October, was released over the past week. These days, all sorts of inflation metrics tend to get measured. But generally, there is a “headline” inflation figure that includes all categories (goods and services), and a “core” figure that removes more volatile areas such as energy and food. Both came in below expectations. More importantly, both suggested the easing in inflationary pressures continues to progress. A year ago, the year-over-year figures stood at nearly 8.0% (for headline) and nearly 6.5% (for core). Today, those figures stand at close to 4.0% and 3.2%, respectively.

On the Canadian front, the inflation data has been telling a similar story. The figures for October will be released over the next few days. However, the figures for September, released nearly a month ago, showed an easing in inflation trends which provided some relief to investors who grew a bit antsy after a brief reacceleration in inflation during the summer. The Canadian headline and core figures as of September were both under 4.0%, meaningfully lower than the 6.5%-7.0% range witnessed a year ago.

Beneath the surface, there are some pressures that remain rather intense in Canada. For example, shelter, which is the largest component of the Canadian CPI (Consumer Price Index) at just over a quarter, continues to see notable pricing pressures. That is primarily because mortgage interest costs are up nearly 30% year over year and have been the biggest contributor to Canadian CPI of late. It’s hard to imagine that moderating any time soon with the number of Canadian households expected to have to refinance their homes over the months to come. This suggests that one of the meaningful drivers of year over year inflation in Canada may remain elevated for some time to come.

The key takeaways with respect to inflation trends differ depending on one’s perspective. As a consumer for example, falling inflation does not necessarily mean falling prices. Instead, it means that prices are not increasing by as much as they were previously. That’s an important distinction because consumers may still be faced with a relatively high cost of living compared to years ago where prices for nearly everything were significantly lower. From an investor’s perspective, falling inflation is instead a meaningful tailwind because it raises the odds that central banks such as the U.S. Federal Reserve and Bank of Canada may not have to tighten financial conditions further by raising interest rates to fight off inflationary pressures. That is largely what has transpired this year as a fall in the rate of inflation has changed investors’ expectations around interest rate hikes and resulted in less volatility this year compared to the year ago period when inflation was accelerating.

Regardless of persona, it is important to distinguish between the end of interest rate hikes and the beginning of interest rate cuts. For the latter to occur, a bigger fall in the pace of inflation or emergence of broader economic weakness would be required. Those scenarios are possible outcomes as we start to think of what conditions may look like at this point next year.

Should you have any questions, please feel free to reach out.

Have a great week.

Best Regards,

Frank