Chart Advisor: Inflation Inches Up

By J.C. Parets & All Star Charts

1/ Was Disinflation Transitory?

2/ Bulls Pressing the Gas

3/ Nothing New From Rates

4/ Value Takes the Lead

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1/ Was Disinflation Transitory?

For the first time since June of last year, the year-over-year growth rate in headline Consumer Price Index (CPI) moved higher compared to the prior month. We’ve been in a disinflationary environment for the past year. This simply means that the price level for goods and services is still rising, albeit at a slowing pace. 

The question we’re asking ourselves today is what things will look like if the rate of inflation were to reaccelerate in a sustainable way moving forward. What if inflation wasn’t transitory at all?

The first relationship that comes to mind is that between inflation and commodity prices, shown below:

Of course, we haven’t unearthed some new groundbreaking correlation here. The price of commodities is reflected in CPI, which explains this strong positive relationship throughout history.

However, one of these charts represents real-time data, while the other is delivered on a lag. This begs the question as to whether the strength from commodities since this summer is the start of a new inflationary regime.

The verdict is out for now, but with rotation into energy and energy futures picking up steam, it seems like that is the direction we’re headed … at least over the short term.

2/ Bulls Pressing the Gas

Crude oil isn’t the only energy contract completing a major reversal pattern.

Gasoline futures are also breaking out, nearing new 52-week highs. Check out this bearish-to-bullish reversal pattern:

Notice how price is trading above the 200-day moving average (gray line). We use this long-term moving average as a trend identification tool, and now that it is sloping upwards, it tells us that the primary trend is shifting to the upside as well.

Also, note that gasoline futures are above those August pivot highs—a critical level for U.S. stocks and other risk assets. As long as this breakout is intact, the path of least resistance is higher, and we could see higher gasoline prices in the future.

With gasoline comprising about 4% of CPI, and commodities in general accounting for roughly 40%, this is a chart that inflationistas need to pay close attention to right now.

3/ Nothing New From Rates

Rates continue to rise worldwide. If inflation is to reaccelerate from here, we should only expect this to continue.

Any talk of falling rates and buying bonds, while the U.S. 10-Year yield holds above 3.25%, is glorified gossip. The uptrend for rates remains intact without any signs of a reversal.

But it’s a completely different story if the U.S. benchmark rate undercuts its April pivot low.

We have to see it first, of course. 

If and when rates begin to roll over, then we can have that discussion. It’s a moot point until then.

Antipating lower rates conflicts with the underlying trend.

Of course, when the data changes—we’ll change with it. For now, we’re focusing on those market areas that benefit the most from a rising rate environment. Commodity stocks, we’re looking at you.

4/ Value Takes the Lead

With the market enjoying a healthy sector rotation in the second half of the year, leadership from value-oriented sectors continues to expand beyond just energy stocks.

The chart below shows financials relative to tech (black line) and industrials relative to tech (blue line), both holding above a critical level of support.

If financials and industrials are about to embark on a new period of outperformance, this is a logical place for it to start. Both sectors have rebounded off their prior-cycle lows relative to technology recently.

More work is needed before we can have conviction that new uptrends have taken hold. However, as long as these two ratios remain above the former lows, a period that favors cyclical stocks could be underway—at least over short and intermediate term.

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Originally posted 10th August 2023