Inflation at Odds with Equities

Another interesting divergence here via Societe Generale research.  Like the commodity trend, we’re seeing a big divergence in US inflation expectations and the S&P 500.  If deflation is truly a big risk then there’s an awful lot of faith being placed in the Fed’s hands at present through QE.  Me, I’m more in the low inflation camp as opposed to the deflation camp, but it’s hard to ignore these divergences….

Here’s more via SG:

  • While the S&P 500 is up 17% YTD, equity inflation is not in sync with the US economy, where inflation expectations fell below 2.3% to reach an 8-month low.
  • Inflation has been sinking in the eurozone at an accelerated pace in the past few months, reaching a 3-year low of 1.2% in April
  • Inflation has been trending down in many countries, including China where inflation accelerated a mere 2.4% in April 2013.

Chart via Orcam Investment Research:



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Cullen Roche

Cullen Roche

Mr. Roche is the Founder of Orcam Financial Group, LLC. Orcam is a financial services firm offering research, private advisory, institutional consulting and educational services. He is also the author of Pragmatic Capitalism: What Every Investor Needs to Understand About Money and Finance and Understanding the Modern Monetary System.

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  • InvestorX

    Well spotted.

    From indicators I am watching:

    Equities have decoupled and overshot from indicators as the ISM, economic surprises, consumer discretionary relative performance, LEI, EMBI spread, USD. Further non-confirmation is via commodities, especially copper and Chinese equities.

    Confirming indicators are: US weekly jobless claims and EU credit spreads.

  • Ex1

    The divergence doesnt point to anything, youre comparing yield to nominell price level, makes no sense. Breakevens move around a lot as well and quite poorly predict inflation, historcially.

  • InvestorX

    It is not the level he is comparing, but the direction of movement.

  • ex1

    understand that, but the level of inflation is as, or more, interesting than the direction, especially since its gonna mean revert, which the nominal ES level over time does not. Put up a graph of the overall price level compared to the market instead.

  • ReturnFreeRisk

    Where can I send you some charts on this subject?

  • Celebrate Uniformity

    The japs are tanking their yen and we haven’t responded.
    That explains it.
    I think.

  • James White

    This fits with the deflation theme. It’s not growth that people are buying but income streams. The rally is a result of lower price growth expectations, feeding an acceptance of lower interest rates and lower returns on capital. Those equity assets that provide stable returns and have pricing power, the defensives, are being well-bid. Growth stocks are poorly bid because it is difficult to achieve and sustain pricing power, near impossible. The rally will continue until such time as these assets are priced according to low, long-term, inflation outcomes. I still think we’re a way away.

  • jldasch

    I think that analysis is pretty solid. Relative to zero-risk assets (Tsy’s) equity assets that have a good probability of providing stable returns one can argue that these equities have a ways to go. After the housing crisis, I think the relative demand for zero-risk assets vs equities moved well to the zero-risk side. Returning to more traditional levels of relative risk balance will likely move equities higher for a while.

  • James White

    Thanks jldasch

    It’s undoubtedly the case that, as with the housing crisis, prices go to far, it’s nature. But yes, return expectations are too high relative to price expectations and I don’t see price expectations shifting up, only down in the medium-term.

    The proviso is wage growth: this to me is the only sustainable driver of inflation in developed economies.

  • Mercator

    US consumer spending is so dominate in the economy that a slight discretionary pull-back throws us into a recession. If saving suddenly became vogue, the economy would crash. We need to spend and borrow, and worry about tomorrow another day. That is the message our Fed Reserve Bank is sending to our children. To hell with risk averse parents and grandparents. They need to step up and take one for the team.