Why The CPI Data Might Not Be Enough To Convince The FOMC To Cut Rates - Blu Putnam
Blu Putnam, Former Managing Director and Chief Economist of CME Group.
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00:00Former chief economist at the CME has been guiding us through this inflation picture.
00:10Just very accurately blew top of your head.
00:13You said we were at 2% or near 2% before.
00:18Where do you think we are now?
00:19I mean, some people say it's a lot higher, a lot lower.
00:22What's your gut reaction to these numbers?
00:24Well, they're good numbers.
00:26You know, it's further progress.
00:28It's not enough progress in my view to convince Jay Powell and the FOMC that it's time to
00:35cut rates.
00:37They've been talking about their lack of confidence pretty regularly.
00:42But this is a good number and it's in the right direction.
00:45So that's it's all it's all positive.
00:49But it may not be positive enough for certainly not for July.
00:53We'll see about September.
00:54We'll get more information before then.
00:57You did your homework for us and you got some nice looking charts here and our graphics
01:04here starting with consumer price headlining inflation year over year.
01:10What are we looking at here, Blue?
01:11Well, this is before the number.
01:14So this number is going to dip down from 3.25 to close, you know, right at 3% headline.
01:21Now, 3% is a pretty critical number because a lot of us, myself included, think that's
01:28kind of where we're going to get sticky.
01:30Well, we are sticky there, but we might stay sticky for longer as Jay Powell might not
01:36like me to put it that way.
01:39So you know, the headline numbers is going to come down a little bit, but it's still
01:43going to be at 3%.
01:44You're going to have a three handle.
01:46So that's good, but it's not great.
01:49Can we ever get back to 2%?
01:51Well, we can, but not the way we want to.
01:57We were at 2% from 1994 to 2000 because of a lot of context.
02:07Globalization was in play in the late 90s and early 2000s.
02:11China was growing fast and producing cheap goods.
02:15Supply chains were working well, optimized for the lowest cost.
02:19There were a lot of good supporting factors for subdued inflation that had nothing to
02:26do with Federal Reserve policy.
02:29Anyway, those things unfortunately are all gone.
02:32We got geopolitical tensions, supply chains are being rearranged, globalization is not
02:38moving forward, and tariffs are in the news.
02:43So the context that gave us 2% inflation for two and a half decades is gone.
02:49So I'm in the camp that we end up at more closer to three.
02:54By the way, the chart you just put up is the problem with the inflation numbers not going
02:59down faster.
03:01We're still sitting at shelter inflation.
03:04I haven't seen the latest shelter one that just came out, but it's probably year over
03:09year going to be still a five handle, but coming down.
03:14We know shelter is coming down.
03:17It's a lagged indicator.
03:18So all you have to do is look out the window and you know it's coming down, but it comes
03:24down slowly.
03:25I saw a statistic that even though there's more supply on the market, prices are higher.
03:39That people are still sticking at these higher prices, even though there is an oversupply.
03:44So that would not be a good indicator here.
03:49What would we need sheltered?
03:50You said it's been receding.
03:53Where would this have to come down to for it to meet the overall goal of 2%?
04:01What would you be looking at for that?
04:03You'd have to get to three.
04:07Services are going to be above goods.
04:09So discretionary goods, capital goods, durable goods are going to be below 2% and services
04:17are going to be above and shelter is a big part of that.
04:22But here's what happens.
04:23If you take the housing component, not the rent component, but what we call owner equivalent
04:31rent, when people own their houses, this is 25%, one quarter of the CPI.
04:38If you take it out, we're at 2%.
04:42Given today's number, when I redraw this graph, it'll probably be right at two or even maybe
04:46just below.
04:48Unfortunately, if you take it out, you're assuming that the shelter component stays
04:54at 2%.
04:56That's not going to happen.
04:58It's just not going to happen.
05:01Inflation is much more likely to be sticky closer to three than come all the way down
05:06to two.
05:08But if you're the Fed or you're an analyst, shelter is why it's not coming down faster.
05:13Okay.
05:14All right.
05:15That's a look at that.
05:16It'd probably be closer to 2% today.
05:19Now, we're seeing really a big retreat in a lot of these restaurant stocks here and
05:25a lot of that may be because of the ... I mean, I see minimum wage going up.
05:31I saw California fast food employees now want 20 bucks.
05:36Here's another sticky part of the inflation number.
05:39It's wage inflation here.
05:42That's coming down.
05:43It's coming down, but not as quickly as perhaps the Fed wants.
05:48Well, this is where I really have an issue with the way many people, including the Fed,
05:54interpret this.
05:55I don't believe wages have anything to do with future inflation.
06:01Wages are a catch up.
06:02We've got a surge in inflation.
06:03We tried to catch up.
06:05In wages right now, they're sitting just under a 4% annualized growth rate, year on year.
06:15If inflation is 3% and wages are four, people are barely keeping up.
06:21There's nothing inflation about these numbers.
06:23Now, you mentioned the restaurant industry.
06:26That's the one that's really interesting to watch right now because the high-end restaurants
06:31are doing great and the low-end restaurants are having price wars.
06:38They are still ... The restaurant industry is still hiring, net hiring.
06:42They're still bringing people on, but from a profit perspective, when you start looking
06:47at the equity prices, if you're in the highly competitive fast food market, there are some
06:55challenges out there.
06:58Some of those are coming from expenses.
07:02By the way, very few people overall get the minimum wage.
07:07Most people who work in restaurants do make more than the minimum wage, but the new hires
07:12get ... That's where the competition is.
07:17You said this indicates wages lag CPI.
07:21They do not lead it or cause it.
07:24What do you think the lag time is?
07:28It's about two to three years in the sense that you get a surge in inflation, but it
07:34takes another year or two to negotiate with your employers for the unions and everything.
07:42It's a slow process, but wages are trying to keep up.
07:46They're not causing.
07:49To me, that's just incorrect.
07:51Okay.
07:52PC, core inflation, that's the Fed's big number here.
07:56This is the one you wanted to get to, Blue.
07:58What do you got?
07:59This is my favorite chart of the month, probably the next couple of months.
08:04I'll bring it on next time we have inflation data.
08:07Anyway, what we're doing is we're taking the last six monthly numbers, that .01, .1, .2,
08:16those kind of things, and we're annualizing them.
08:21We take six months of data, because instead of taking 12 months, we're taking six months.
08:26We're saying, if we kept at this pace, what would the annual inflation rate be?
08:33The data that we had before this release told us it would be a little over 3%.
08:39This data that came in is very good.
08:41It's going to knock this number down, but this number, this is the PCE version.
08:48It doesn't come out until the end of the month, but we know it's going to come down
08:53from that 3.18, probably very close to 3% at the next release.
08:59That'll be very, very good news for the Fed, but the reason I love this chart is you can
09:06tell what Jay Powell's thinking from this chart.
09:12In 2023, we had this dramatic decline in this indicator of inflation, and by the end
09:18of the year, it got to 2%.
09:21Jay Powell told the world, hey, we might be able to do a couple of cuts, maybe more than
09:25a couple.
09:26Yes, yes.
09:27Then in the first part of 2024, it goes back up, and he says, oh, wait a minute.
09:33I've lost my confidence, which many people did.
09:40For me, it wasn't a loss of confidence, just, hey, we're stuck at 3.
09:43We're going to bounce around, but this number will go down, and this is the one I think
09:50that is the most convincing number for the FOMC.
09:54If you ask the FOMC what they look at, they'll tell you they look at everything, and by the
09:59way, they do look at everything, and I don't argue with looking at everything, although
10:03the people that look at everything, a point in every direction is no point at all.
10:09There's a song about that.
10:11Anyway, Randy Newman.
10:13Thank you, because this really explains that shocking statement that we got at the end
10:22of last year.
10:23You're right.
10:24There we were, 2%, right?
10:26What could go wrong, and now it's keeping up, so you're saying the PC number will come
10:32down.
10:33It's just that we may not want to have too high of expectations when that number comes
10:38out at the end of the month.
10:39Yeah.
10:40I mean, I think at the end of the month, we're going ... I mean, the CPI and the PC are measuring
10:47essentially almost the same thing, so you get this good number here, we're probably
10:51going to get a good number at the end of the month.
10:53How good?
10:54Well, that 6-month indicator is probably still going to have a 3 handle, but it'll be right
10:59at 3, so that's good news, but is it good enough for Jay Powell and the FOMC?
11:05Their target's 2, and I don't know if it's good enough.
11:10That's their decision, not mine.
11:12This is how the number of rate changes has changed.
11:17This chart shows how many rate changes do you expect before the end of 2024.
11:26We went all the way up to six cuts when the Fed got optimistic back in December, January.
11:33Six?
11:34Okay.
11:35Now, we're back at 2, but you can kind of see we occasionally bounce between 1 and 2.
11:43September, I don't specialize in timing.
11:48I'd rather do longer-term direction.
11:49I'm a little more accurate on that.
11:51By the way, if you do both, you're going to get at least one of them wrong, but the September
11:57rate cut is still pretty tricky for me because I know we're going to get good data, and I
12:02know it's going in the right direction.
12:05I just can't kind of get in the Fed's brain as to whether it's enough, and that's what
12:10he's talking about.
12:11Do I have enough confidence, and I'm still on the fence for September, but December seems
12:19quite likely.
12:20We'll have enough by then, so you get at least one cut.
12:22Yeah, with the election, too, I will say, oh, it's politically motivated here, but yeah,
12:30you could see six cuts, man, in February.
12:33That was factored in.
12:35It looks like it's going in the wrong direction.
12:37Another thing that you've mentioned in the past, too, is one cut is really not that much,
12:44right?
12:45I mean, just a quarter point, I mean, really, we've got to look for more than one cut, but
12:51that's a real issue.
12:52Yeah, that's right.
12:53If you want to see big changes in the economic outlook, you've got to have more than one
12:57cut.
12:58I mean, we know that.
13:00interest rates from zero to five and a quarter percent, and the economy still grew, and jobs
13:05were still fine.
13:06So, if they raised by five percent, you think a quarter percent cut's going to make any
13:10difference to anybody?
13:12I don't think so.
13:13Yeah, and I mean, I think that's what we're talking about here is potentially one to twenty-five
13:21basis point cuts this year, and that doesn't, at the end of the day, to your point, Blu,
13:24especially for the biggest companies in the world, not going to make a world of difference.
13:30But just backing up, I mean, you know, you look at when we had inflation at 40-year highs
13:34and you had people calling for Jerome Powell's head.
13:37I mean, you've been, you know, you're a veteran, you've been in this business for a minute.
13:43How would you rate Powell's just overall performance here?
13:46Like is he up there in terms of the best Fed chairman we've seen over the past few decades?
13:53You know, that's a tough question.
13:55The best Fed chairman over the past few decades.
13:59I don't think a lot of them are all that good.
14:03You would do a better job, huh, Blu?
14:06No, not me, man.
14:08I'm definitely not.
14:10But I'll tell you what, the issue is that the Fed's not really in the business of forecasting.
14:17They're in the business of policy.
14:19And they do have a longer term view and that is what they should have.
14:24But I do worry that they're like 150% data dependent.
14:30And I'd really like for them to have some confidence in a view of the future.
14:35And I don't even mind if they're wrong occasionally.
14:39You know, I mean, Roger Federer was explaining the other day to everybody that he only won
14:4554% of his shots.
14:47I mean, you know, one of the greatest tennis players ever and he's 50-50 or just slightly
14:53better.
14:54So it's okay for the Fed to make mistakes, but I think they need to have a stronger view
14:59of the future.
15:00Jay Powell is a lawyer by training who's tried to become a pretty good economist.
15:05What he's become is a very traditional economist, unfortunately, and these are not traditional
15:10times.
15:11But I can tell from his press conferences that he's learning.
15:17He's being way more careful.
15:18He's appreciating the volatility of the data more, but he still doesn't have confidence
15:22in the future, his forecast.
15:25The only guy that did, by the way, was Alan Greenspan.
15:28I mean, before he became Fed chair, he ran a forecasting company, Townsend Greenspan.
15:35And he was really good at forecasting next quarter's GDP.
15:41He was great at that.
15:43He was about average to not so good at inflation and he was terrible at foreign exchange rates.
15:48But boy, was he good at GDP.
15:51And he had confidence in his views and he understood he would make mistakes.
15:54But we haven't seen that in a long time at the Fed.
15:57All right.
15:58Big component here.
15:59The people are looking.
16:00We do have a rising unemployment.
16:02I want to rip through these few slides here for the unemployment.
16:06And then I want to discuss implications for the market here.
16:10So.
16:11So the jobs are good.
16:12We you know, the jobs are, you know, they're a backward looking number, but they're fine.
16:17OK, and unemployment rate spiking up a little bit, but that's kind of what the Fed wants,
16:25right?
16:26Well, it is what they want.
16:27We're at four point one.
16:29You can see from this graph that you're not there very often.
16:32That red line is at four.
16:34We've come up from three point six.
16:38Anytime you come up as much as a half a percent, that's a red flag.
16:43But this time is different because the pandemic has changed everything.
16:47So whatever.
16:48I think it's called the SOM rule.
16:50It's a great rule, but it doesn't apply this time.
16:52All right.
16:53Let's wrap things up here.
16:54What does this mean for equities?
16:57I'm a bear in the early fall.
17:01OK.
17:02OK.
17:03I'm not.
17:04I don't know what's going to happen tomorrow.
17:07But I always get exceptionally nervous around September.
17:11You know, you come to Labor Day.
17:13You're managing assets or you're a hedge fund.
17:16You've made plenty of money.
17:17What do you do?
17:18You want to make sure you get your bonus, so you cut your positions and glide into the
17:23end of the year.
17:24OK.
17:25You're a hedge fund.
17:26You're an asset manager.
17:27You're not doing well.
17:28What do you do?
17:29You don't do what you've been doing, so you change your positions.
17:34Either way, September is one of the more difficult months in the market.
17:38Now, this chart you're looking at is one of my concoctions.
17:41But this is a risk-return probability distribution based on the S&P 500 futures options markets.
17:50And I look at every one of the strikes.
17:53I specialize in the out-of-the-money calls for the bullish side and the out-of-the-money
17:57puts for the bearish side.
17:59And what this tells you, and by the way, I don't believe what this says, but what it
18:03tells you is the market is worried about melting up.
18:07There's a long tail to the bullish side.
18:10But on the downside, they're only worried about a 5% to 10% correction.
18:15Nobody's worried about a 20% bear market.
18:19So I'm not always a contrarian.
18:22But in this case, I'm turning this graph upside down.
18:26And my timing, again, I'm violating one of my big rules, timing and direction in the
18:32same sentence.
18:33Labor Day is my trigger.