Week in Review

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Week in Review: June 11, 2021 

Running Hot

 

U.S. equities closed the week higher, as investors digested May’s inflation report, which revealed that price pressures were largely driven higher by categories associated with the economic reopening. While consumer prices jumped more than expected, the surge was most evident across COVID-19-affected sectors that were disrupted by last year’s shutdowns, in addition to areas facing intense supply constraints and bottlenecks. The report provided support to the Federal Reserve’s (the Fed’s) patient approach to monetary policy accomodation, given that central bank policymakers anticipate the current period of elevated inflation to be largely transitory, meaning it could stabilize back to a modest pace in the years to come as the economy continues to normalize. Nevertheless, inflation has been in the limelight and is likely to remain under close watch. Some market participants worry that a swift rise in consumer prices could force the Fed to raise interest rates and taper its pro-growth policies earlier than planned. Still, U.S. Treasury yields are significantly lower from their March highs, when the 10-year yield climbed above 1.7% as the economic reopening gained steam. This week, the 10-year U.S. Treasury yield traded below the 1.5% mark as bond markets shrugged off the strong inflation report and appeared to support the Fed’s thesis that the current wave of heightened inflation will prove to be temporary (see Figure 1).

On Thursday, the U.S. Labor Department reported that headline consumer prices accelerated at their fastest pace in nearly 13 years as inflation pressures continued to build in the economy amid increased vaccinations, wider reopenings and ample fiscal stimulus. The U.S. consumer price index (CPI) — a measure of the average change in the prices paid by households for a basket of common goods and services — rose 5% from a year earlier, beating economists’ expectations of about 4.7% (see Figure 2). Similarly, the annual rate for the “core” CPI index — which excludes more volatile categories such as food and energy from the calculation — accelerated further from 3% to 3.8%, the highest since June 1992. However, strong base effects accounted for a large portion of the headline year-over-year uptick since the pandemic depressed consumer spending and drove down prices last year. Another strong 7.3% advance in used car and truck prices was one of the main drivers of the increase, but strong price gains were recorded across other categories as well. Shelter prices on a yearly basis accelerated for the third time since the pandemic began, rising 2.2% as the outburst of pent-up demand continued exceeding constrained supply. 

Meanwhile, U.S. consumer sentiment improved in early June, recouping two-thirds of last month’s sharp decline. Notably, near-term inflation expectations have cooled off since May, while long-term forecasts continue to remain comfortably anchored and relatively low by historical standards. The University of Michigan Consumer Sentiment Index increased to 86.4 in the first half of this month from a final reading of 82.9 in May. The survey reported greater optimism regarding future economic prospects, mainly among middle- and upper-income consumers. Respondents anticipate robust economic growth during the second half of the year, while a record 54% expect a decline in unemployment. Rising inflation remained at the front of consumers’ minds, but near-term expectations cooled after sharply rising in May. While inflation expectations are still higher than at any other time over the past decade, consumers’ long-term inflation forecasts also declined to 2.8% from 3.0% last month. This adds further support to the Fed’s view that current price pressures are mostly a side effect of supply constraints as the economy reopens. 

Looking ahead, we expect consumers to be more upbeat as the economy continues reopening and employment conditions heal further. Current pandemic-related supply constraints are expected to steadily improve in the months to come, supporting a healthier labor market and easing some price pressures as economic dynamics normalize. Thus, while some of those pressures may linger in coming months, we do not anticipate spiraling long-term inflation to materialize. Importantly, we still expect the U.S. economy to grow strongly over the next two years thanks to a combination of accommodative fiscal and monetary policies, and for this to support corporate earnings and appetite for riskier assets. Therefore, while we do not dismiss the possibility that inflation in the U.S. could prove more persistent than both the Fed and markets appear to anticipate (and that an inflation surprise could set off volatility across markets), we still expect equities — particularly  those of companies in areas with the highest exposure to the economy — to make some further gains over the next couple of years.

 

Figure 1: U.S. 10-year Treasury yield

   10-year UST

Source: Thomson Reuters (as of June 11, 2021).

Figure 2: U.S. Consumer Price Index (CPI) (12-month percentage change)

    CPI 

*First Republic Investment Management’s custom grouping.
Source: Bureau of Labor Statistics (as of June 11, 2021).

 

 

Market Returns (USD) as of 6/10/2021

1-Week

Quarter-to-Date

Year-to-Date

1-Year

Global Equities

MSCI All Country World


1.0% 7.0% 11.9% 35.2%

S&P 500


1.1% 7.0% 13.6% 35.0%

Dow Jones Industrial Average


-0.3% 4.9% 13.6% 30.3%

NASDAQ


3.0% 6.0% 9.1% 41.0%

Russell 2000


1.4% 4.3% 17.5% 59.3%

First Republic Founders Index

 
3.4% 4.3% 12.5% 53.9%

Russell 1000 Equal Weighted


0.8% 7.9% 19.5% 45.4%

MSCI EAFE


0.9% 7.8% 11.6% 30.8%

MSCI Emerging Markets


-0.3% 5.2% 7.6% 39.0%

Fixed Income

ICE BofAML Municipals 1-10 Year A-AAA 

0.3% 1.0% 0.7% 3.0%

Bloomberg Barclays Intermediate Government/Credit

0.5% 1.3% -0.6% 0.8%

Bloomberg Barclays High Yield Bond

0.5% 2.1% 3.0% 12.6%

JPMorgan GBI Emerging Markets Global Diversified

0.7% 5.9% -1.2% 6.3%

Market Levels

Thursday

Week Ago

Year End

Year Ago

S&P 500


4239.18 4192.85 3756.07 3190.14

Dow Jones Industrial Average

 

34466.24 34577.04 30606.48 26989.99

10-Year U.S. Treasury Yield (Constant Maturity)

1.45% 1.63% 0.93% 0.75%

Gold ($/oz)


$1,898.51 $1,870.76 $1,898.36 $1,738.70

Crude Oil ($/barrel)


$70.29 $68.81 $48.52 $41.14

U.S. Dollar / Euro ($/)


1.22 1.21 1.22 1.14

U.S Dollar / British Pound ($/£)


1.42 1.41 1.37 1.27

Japanese Yen / U.S. Dollar (¥/$)


109.33 110.29 103.25 107.12