Six Charts I Cannot Ignore

It is easy to get caught up in short-term market gyrations and miss the big picture. After all, the VIX is historically elevated, and markets are seeing major swings every few days. Defying expectations, the S&P 500 recently recovered 8% from start-of-month lows, at one point moving 3pp in a single day. Alphabet alone saw a 2.7 standard-deviation jump last week, with Microsoft, Apple and Amazon hot on its heels. But a dead-cat bounce should not distract you from the broader macro picture.

And that picture is grim: inflation, rising interest rates, and recession risk. In the US, inflation is the highest since the early 1980s at 8.6% (Chart 1). In Germany, it is 7.9%, which exceeds 1970s levels (Chart 2). And in the broader euro area, the inflation rate has climbed steadily higher since midway through last year to sit at 8.1%. Core CPI for the bloc is at a record-high 3.8%.

Compounded by the Russia-Ukraine war and persisting lockdowns in China, this inflation is going nowhere fast. It is becoming entrenched, seeping into wages as companies compete to attract workers in an environment of low unemployment (Charts 3 and 4).

What are central banks doing about this? They are tightening. They are proclaiming ‘unconditional’ commitment to combating price rises and warning that anyone who doubts their resolve is ‘making a big mistake’. Yet Fed policy rates remain well below previous peaks (at 1.5%) despite a 75bp hike at the last FOMC meeting (Chart 5). And ECB policy rates are still negative (Chart 6).

That implies policy rates may have to rise much higher to curb inflation. They might end up higher than the market is pricing. We think the Fed’s terminal rate is at least 5%. Yet markets are pricing around 3.5-4.0%. There is a similar mispriced hawkish risk with the ECB.

Many investors are underestimating the political pressures of high inflation and that central banks will likely hike more than people think. The emerging market (EM) experience is instructive: EM central banks know the societal challenges of high inflation, and most have hiked aggressively as a result. It will only be a matter of time before developed market central banks follow.

---

Bilal Hafeez is the CEO and Editor of Macro Hive. He spent over twenty years doing research at big banks – JPMorgan, Deutsche Bank, and Nomura, where he had various “Global Head” roles and did FX, rates and cross-markets research.

(The commentary contained in the above article does not constitute an offer or a solicitation, or a recommendation to implement or liquidate an investment or to carry out any other transaction. It should not be used as a basis for any investment decision or other decision. Any investment decision should be based on appropriate professional advice specific to your needs.)

• Share article on:
• an app
• LinkedIn
• Facebook
• Twitter
• email

Your comments