June 10th, 2022
The May CPI report shook Wall Street on Friday with the Dow plunging 880 points as hopes were dashed we have reached the peak in inflation. The consumer price index rose 8.60% from a year ago on broad-based gains in prices throughout the economy. This was the index’s highest reading since December 1981. The unexpected rise reverberated throughout the Street as investors feared the Federal Reserve will kick it into overdrive to tame rising prices. The report overshadowed the week’s other economic headlines which showed a drop in the U.S. trade deficit, driven by consumers shifting spending towards experiences over goods, while Chinese exports revved higher now that Covid restrictions have receded. Traders were eager to close the books on what became an ugly week with the Dow falling -4.58%.
Rising Prices Drive a Hole in Consumers’ Pockets
Consumers are battling inflation on all fronts as inflation moved higher in May. The CPI index rose 8.60% year-over-year. That was higher than April’s 8.30% inflation rate. Core inflation, which excludes volatile food and energy prices also rose, up 6.00%. Both numbers were higher than forecasted. On a month-to-month basis, which is one of the primary metrics that the Fed keeps a close eye on to guide its policy decisions, overall CPI was up 1.00% while core CPI rose 0.60%. A rise in fuel oil which is primarily used in power plants, cargo ships, and industrial plants rose a stunning 106.70% from a year ago. That was its largest increase on record. The rising price of a gallon of gas also weighed on household budgets, up 48.7% from a year ago. There are little signs of relief with AAA showing the average price of a gallon of gas hovering at $4.986 as of Friday. While OPEC+ has committed to increasing output, they have struggled to keep up with increased summer demand, and with Russian sanctions still disrupting supply lines, there is no end in sight on rising energy costs. Food costs also slapped consumers, who have seen their grocery bill rise 10.10% yoy. If you thought eating at home was going to help, then you might think again. Food consumed at home rose 11.90% while dining out was up 7.40%. Inflation hit even closer to home with shelter costs rising 5.50% from a year ago, their fastest pace in 31 years. The broadness of the inflationary pressures, and in necessities in particular, puts even greater urgency on the Fed’s actions and statements following the FOMC meeting next week.
Trade Deficit Eases as Consumers Shift from Goods to Services
If there was one silver lining in this week’s crop of economic news, it’s that the U.S. trade deficit showed signs of narrowing as consumers pivot from buying goods to consuming services. The U.S. trade deficit retreated from its March record high of $107.7 billion to $87.1 billion in April. Exports rose 3.50% to $252.6 billion, while imports fell -3.40% to $339.7 billion. The growth in exports was driven by a rise in industrial supplies and materials, soybeans, and aircraft. Meanwhile, the drop in imports were driven by a decline in apparel, household, sporting, and computer goods. Retailers have been warning that demand for goods has been softening, leaving them with unsold inventory and the need to now heavily discount items. Summer vacations are in full swing, and goods are not likely to see much demand improvement until we’re closer to the back-to-school and the holiday shopping seasons.
Chinese Factory Floors Restart After Covid Restrictions Ease
It was back to work in China’s factories as Beijing eased their Covid restrictions in May. Chinese exports rose 16.90% from a year earlier, their fastest pace since January. Imports also rose, up 4.10%, as people relished in being able to leave their homes and shop once again. This was the first expansion of imports in three months. Strong Chinese exports are typically an indicator of strong global demand, but in this case, it is really a function of a month long backlog created by China’s Covid restrictions. The Chinese economy remains in a difficult position with global consumers beginning to slow their purchases of goods amid high prices and a pivot to experiences during the summer vacation season. Despite having eased restrictions in recent days, a rebound in Covid cases has officials tightening restrictions once again. Thursday, roughly 10 days after exiting a bruising two-month lockdown, Shanghai officials announced they would restrict movements in seven districts to curb a rebound in Covid cases. An estimated 14 million residents, more than slightly half of Shanghai’s 25 million residents will be required to undergo testing this weekend, raising the prospect that a stricter lockdown may lie ahead. A return to strict lockdowns will weigh heavily on China’s domestic demand just as the global consumer taps the brakes on buying goods more generally.
Final Thoughts
The Federal Reserve has its work cut out for it as it holds its FOMC meeting next week. Prior to Friday’s CPI report, the Street had come to the consensus view that inflation was peaking, and the Fed would only need to hike rates by 50 bps a few times between now and the fall before being able to roll off the throttle. Friday’s CPI report was seen as having thrown cold water on that idea. For our part, we’ve thought the Fed was always going to need to be more aggressive than the market has been prepared for, but at the same time, we don’t see the CPI report as nearly draconian as the market’s early reaction would indicate. The trailing 12-month, core CPI increase in May was 6.0%, which was down from 6.2% in April and 6.5% in May. The combination of high goods inventories, which is beginning to lead to discounting, along with the shift to services spending, where prices are rising at a “high but lower” rate of 5.2% (excluding energy services), means that inflation is likely to trend lower soon. The problem is that inflation is not trending lower fast enough to be reflected in the headline inflation figure or enough to fend off the Fed from an autumn of rate increases. Friday’s inflation reading means that the Fed now has less than a week to not only decide how it will tighten next Wednesday but to also craft a message that doesn’t spook markets further in the process.
The Week Ahead
After this week’s unexpectedly hot inflation report, traders will be glued to one of the most highly anticipated FOMC meetings in years. The central bank will attempt to soothe markets as it unveils its monetary policy path for the back half of the year in light of broad-based inflationary pressures. Traders will also be paying close attention to the May retail sales report which, in the face of high inflation and a shift to experiences over goods, could prove to be another blow for retailers.
Disco Scallops
Scientists working with fishermen have discovered that they can catch scallops by using disco-like LED lights. The surprising find came about accidentally. Researchers had been experimenting with alternate ways to lure lobster and crab without using fish bait when they realized their work was attracting scallops.
Commercial fishing requires a significant amount of bait that fisherman load into traps and pots that are dropped into the water. Lobster and crab will crawl into the traps at the bottom of the ocean to get the fish bait and then are unable to escape.
The Lobster Institute estimates that between the U.S. and Canada alone, lobstermen use somewhere between 700 million and 800 million pounds of fish annually to bait traps. The rising cost of bait, the desire to preserve fish stocks, and other factors have led researchers and fishermen in search of new ways to lure their catch.
Scientists have been experimenting with lights attached to the pots to attract crabs and lobsters. The lights did not make a difference with their targeted catch, however, they ended up attracting unprecedented numbers of scallops instead. Marine scientist Dr. Rob Enever was quoted as saying, “It’s like a scallop disco – illuminate the trap and they come in. It’s astonishing that no one else has discovered this before. It’s quite an exciting find.” Enever works for a fisheries consultancy in England and was conducting research in British waters off the coast of Cornwall. He worked with fisherman Jon Ashworth who noted that “Pretty much every pot that we hauled had scallops in them and yet every haul without lights had no scallops.”
Wild caught scallops are primarily fished using dredges and trawls which cause damage to sensitive marine habitats and sea life, and the process is time and labor intensive as well. Some scallops are diver caught, however diver caught scallops can only supply limited quantities due to logistical constraints. Upon their discovery, Edever and his colleagues conducted further research to confirm their findings. They used small, underwater “potlights” powered by two rechargeable AA batteries that can last between five and 10 years. The researchers published their paper last month. You can read the full paper here.
Scallops might prefer light so they can better see the plankton they eat or because it may provide safety from predators. One explanation for their attraction to light might be that scallops have up to 200 eyes along the edge of the mantle lining their shells that refract light in a unique way. Most animals, including humans, use lenses to focus light onto their retina, but when light enters a scallop eye, it passes through two retinas to tiny calibrated mirrors at the back of scallops’ eyes that reflect multiple wavelengths of light similar to how powerful telescopes operate. Their eyes also have three times as many opsins — light-sensitive proteins — as humans. These features make them particularly receptive to LED lights so they naturally move towards them.
The next time you enjoy scallops, try not to imagine their hundreds of eyes staring back at you.