Inflation Inches Higher With Lower Consumers’ Confidence, What Assets Will Benefit

Fundamental indicates that may outperform the index in the coming months as the threat of stagflation becomes real.

Concerns over peak economic growth coincides with rising inflation, pushing the real yield on Treasuries to record lows. The high correlation between the real yield and gold suggests bullion is undervalued.

The US Consumer sentiment plummeted in November, with anxiety about inflation helping to push the index to a decade low. Looking ahead, the risk is outsized and persistent price rises feed into the consumer-inflation psyche. In the near term, shortages and prices should restrain inflation-adjusted spending.

A drift higher in expectations could undermine policymakers’ prediction that core inflation will settle at the 2% target, even if some price increases are transitory.

The preliminary reading of the University of Michigan’s Index for November dropped to the lowest level in 10 years. The index fell to 66.8 from 71.7 prior; the expectations (-5.1 index points) and current conditions components (-4.5 index points) were significantly lower. The consensus forecast was for sentiment to improve to 72.5.

On the heels of surprisingly high October elevated inflation expectations, one may seek comfort in resilient consumer spending and business profits. With wage growth now running below inflation and pandemic government transfers winding down, consumer sentiment fell sharply in November.

Meanwhile, supply-chain bottlenecks continue to pressure goods prices, and housing prices remain elevated as supply factors restrain homebuilding activities. What is critical for Q4 US growth is how actual consumption fares. October (Tuesday) will show whether the drop in consumer confidence reins in spending.

We expect it will be a surprise on the upside; pent-up demand will be a factor, though high gasoline prices are set to exaggerate what should be a more moderate gain ex-autos and gas. Consumers still have some financial cushion in their bank accounts.

One biggest question is if inflation will eat into consumption next year. That depends on the pace of the labour-market recovery. Will wage growth catch up to inflation and can businesses can make up for higher costs with improved productivity? These questions will not be answered this week.

Furthermore, Minneapolis President Neel Kashkarisaid the US central bank should not overreact to elevated inflation even as it causes pain for Americans, because it is likely to prove temporary. A not-so-hawkish Fed is another positive news for gold.

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