Today’s release of May’s Consumer Price Index report from the Bureau of Labor Statistics showed a higher than expected 1% rise in consumer prices from the prior month, which translates into an 8.6% year over year increase, the highest reading since 1981.  The Core CPI reading, which strips out the more volatile food & energy components, rose 0.6% MoM, and is up 6.0% YoY.  All components of the Index are measurably higher than one year ago, and there are few signs that high prices will abate any time soon.

Source: Bloomberg

This report will increase the pressure on the Federal Reserve, which meets next week and is widely expected to hike the short-term Federal Funds rate by 50 basis points to 1.5%.  As we write, the 2-year Treasury note yield has risen by 14 basis points on the day, reflecting investor fear over this Fed’s ability to control inflation.  Essentially, markets are doubtful Chair Powell has the COURAGE to pull a Paul Volcker and essentially squash inflation by dramatically raising interest rates, thereby throwing the US economy into an almost guaranteed recession.  Certainly, that would take political courage ahead of mid-term elections.

Dissecting the above chart a bit, the underlying “food at home” index has risen 12% YoY, with “meats, poultry, fish and eggs” up 14.2% (the index for eggs – yes, there is such a thing – is up 32% YoY!).  The index for “food away from home” has risen 7.4% from a year ago while that for “full service meals” rose 9%.

The Energy index rose 3.9% in May and has risen 35% over the past 12 months, with the Russia/Ukraine war a proximal cause, and U.S. energy policy a close second.  Gasoline prices rose 7.8% in May while the index for natural gas rose 8.0% on the month.  The index for fuel oil has risen 106% YoY, the largest such move in the history of the series dating back to 1935.

We could go on through the Services (shelter, transportation & medical care) and Goods sectors with similarly shocking prices moves.  However, anyone traveling, car shopping, or eating (whether at home or dining out) knows that prices are rising at a dramatic rate.  Sadly, there is perhaps no more punitive tax on the poor than inflation.  Despite rising wages all along the pay scale, price increases are eclipsing wage gains.

Moreover, the impact of inflation isn’t just on consumer prices, but assets of all types.  Stocks, bonds, real estate, and private equity – they all derive their value based on an underlying interest rate – the discount rate.  When that rises, the present value falls.  Every business school in the world teaches that.  Those companies that are losing money, or project profitability to be some years away, have seen their share prices “adjusted” the most.  Many profitable, dividend-paying companies less so.

For investors, inflation is presenting both risk and opportunity.  The risk is reflected in declining asset values, while the opportunity is presented in a more compelling fixed-income universe.  Investments such as municipal bonds and high-grade corporate bonds, virtually un-investable a year ago as interest rates plumbed historical depths, are now very interesting, bordering on compelling.  With the probability of further rate hikes high, this should only enhance the attractiveness of bonds relative to stocks going forward.

With all of the uncertainty facing investors right now, we think staying diversified, liquid and nimble makes a lot of sense.  Diversification will help hedge against the unexpected drawdown in a specific sector, while liquidity can offer investors an opportunity to put money to work if prices really move.  Lastly, by remaining nimble and intellectually flexible, investors may remain open to asset allocation adjustments should compelling opportunities present themselves. Heightened volatility can elevate investor anxiety and often lead to poor decision-making.  Nottingham remains at the ready to help guide you through these turbulent markets.  Please know our entire team is working hard every day to try and make sense of today’s changing market environment and ensuring our clients long-term objectives remain attainable.  Your financial goals remain our primary focus, so please don’t hesitate to reach out with questions or concerns.

Larry Whistler, CFA

Larry joined Nottingham in 2006 and heads the Investment Policy Committee, along with portfolio and relationship management responsibilities. He brings over 32 years of investment experience to the team. Prior to joining Nottingham in 2006, Larry worked as an independent RIA for two years and, before that, spent a decade as a bond trader for Merrill Lynch Capital Markets in Los Angeles and New York City.

Nottingham Advisors offers both institutional and individual clients experience, sophistication, and professionalism when helping them achieve their goals. With over 40 years of serving Western New York and clients in more than 30 states, Nottingham tailors each solution to fit the specific needs of each client.

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