Transitory or Pervasive, That Is the Question
Signs of inflation continued to rise in the latest data releases, driven by a record increase in the price of used vehicles (thanks to a shortage in semi‑conductor chips needed to complete a backlog of new vehicle production) and travel‑related costs propelled by ongoing reopening and vaccinations. Keeping in mind the “base effect” of comparing current data to the subdued levels of a year ago during the height of a global pandemic, month‑over‑month increases are also significant enough to raise economists’ eyebrows. The Consumer Price Index rise in April was the highest monthly increase since 2009. The debate over whether price increases are transitory (as the Fed maintains) or potentially longer term in nature has continued.
Supply chain challenges have continued to raise certain input costs, forcing producers to consider passing on higher prices to consumers. Despite an incredibly strong recent ISM Manufacturing report, the supplier deliveries component showed record‑long wait times for production materials. These bottlenecks become more pervasive as demand rises. The concept of potential price increases was a recurring theme company managements referenced in a number of recent quarterly earnings calls. Retail inventory‑to‑sales ratios have reached an all‑time low, indicating that both supply and demand factors are at play with respect to pricing pressures. Newly vaccinated consumers have come out in full force to shop in‑person and spend on activities not available to them for the past year. Stimulus payments made earlier in the year are continuing to find their way from the savings accounts of some of the more cautious recipients into the economy.
|Market Index Returns||May 2021||YTD 2021|
|S&P 500 Index||0.7%||12.6%|
|Russell 2000 Index||0.2%||15.3%|
|MSCI EAFE Index||3.3%||10.1%|
|Barclays US Agg. Bond Index||0.3%||-2.3%|
|FTSE 3 Mo. T‑Bill Index||0.0%||0.0%|
Stock Market Review & Outlook
Investors Favored Cyclical Stocks Last Month
The S&P 500 capped a fourth straight month of gains, finishing higher by 0.7%. A rotation out of technology stocks led the Nasdaq Composite to a modest decline in May, lower by -1.4% and ending a six‑month run of monthly gains. A rise in the Russell 2000 Index added an eighth straight month of gains. This is the longest consecutive monthly streak for small caps since 1995. Inflation worries, cited as a source of volatility early in the month, eased somewhat and equities recovered lost ground by month end. As the first quarter earnings reporting season wraps up, stocks in the S&P 500 have grown earnings by a remarkable 52% from the same quarter last year.
Investors favored more cyclically oriented companies, with Energy, Financials and Materials leading the charge. The more growth‑oriented Information Technology and Consumer Discretionary segments pulled back, as did interest‑rate‑sensitive Utilities.
|S&P 500 Sector Returns||May 2021||YTD 2021|
Economic Review & Outlook
The Puzzle of Filling Open Positions with Available Workers Continues
How to motivate eligible workers to accept available positions is a critical question needing an answer to solve the widening gap between job openings and workers’ willingness to fill positions while continuing to receive enhanced unemployment benefits. The latest Job Openings and Labor Turnover Survey (JOLTS report) showed a record number of jobs, 8.1 million, were available in the U.S. Employers, particularly within hospitality and leisure, are having a difficult time finding workers willing to accept positions, which is expected to lead to rising wage pressure for typically lower‑paying positions.
The number of monthly hires relative to available positions hit an all‑time low in the latest reading and is likely to fall further following the disappointing hiring data that has followed. Several states around the country have begun to decline ongoing payment of enhanced unemployment benefits to their constituents to incentivize able workers to fill open positions in local businesses. Increasing wages may be part of the equation, but in some cases, workers dealing with childcare issues in a new “normal” in which some, but not all schools and activities, have returned to pre‑pandemic schedules is a factor as well. Additionally, some older workers have decided to retire during the pandemic lockdown. Initial Jobless Claims fell to a new pandemic low and Continuing Claims declined further, but total employment in the U.S. in April was still 8.2 million below the February 2020 levels before pandemic lockdowns began.
Chart of the Month
Consumer Spending is Back to Pre‑pandemic Levels
Personal Consumption Expenditures have recovered and are now back to pre‑pandemic levels. Newly vaccinated consumers are spending on activities mostly unavailable to them over the past year.
Expect the Fed to tolerate near‑term inflation with no rush to change course on the easy monetary policies in place for fear of disrupting the flow of economic recovery. We expect short‑term rates to continue to remain pinned at zero well into next year. All eyes, however, will be on the Fed for signs of when bond purchase tapering will begin.
While pockets of inflation continue to pop up and make headlines, we remain in the camp that these spikes are temporary in nature and not indicative of a worrisome long‑term trend. As the pandemic reopening continues, consumer spending habits are likely to normalize and supply chain bottlenecks will clear over time as labor markets get closer to equilibrium. The yield differential between 10‑year Treasury Inflation Protected Securities (TIPS) and nominal Treasuries (known as the breakeven rate) stands at 2.5%. While higher than the 2.0% level at the end of last year, it is still indicative of investors pricing in normal levels of inflation for the long term, not far off from the Fed’s target.
As we have seen time and again, short‑term headlines do a sufficient job of keeping market participants on edge, bolstering market volatility as a longer‑term view comes into focus. It would not surprise us to see this dynamic play out as the inflation debate continues. Please reach out to one of your Account Officers or any member of our Executive Leadership Team to discuss topics raised in this letter or anything else we can be helpful with.