Patrick O’Toole, Adam Ditkofsky and Pablo Martinez - 11/10/2022

Economic data

We’ve been concerned that the rate hike cycle by central banks will result in something breaking, as always occurs during tightening episodes. While there hasn’t been an earth-shattering episode yet that leads to a reversal (pivot) by central banks, there have been some material cracks. This week’s collapse of FTX, a crypto exchange, is the latest addition to a list that includes bitcoin (-76% from high) and FAANG* stocks (-48% from high). More to come? It wouldn’t be a surprise, given central bank efforts to tighten financial conditions haven’t ended.

But the key economic data of the week was the U.S. consumer price index (CPI) report. It surprised on the low side, with core at only +0.3% versus expectations for +0.5% in the month. Is the peak past??!! The trend says ‘yes’. That’s good news for the Fed, although it’s not going to cease rate hikes after one favourable CPI report, especially with the headline year/year inflation rate still over 7%. There was a notable slowdown in the pace of inflation in the services sector to +0.4%, from +0.8% in the prior month, and used car prices (which were a major part of the massive increase in inflation) actually fell 2.4%, and are up only 2.0% year/year (peak at +45.2% year/year in June 2021). Those higher prices are likely part of the reason that U.S. consumers have been running up debt at the fastest 9-month pace in history, as per the September consumer credit report. Regardless, the Fed certainly has an excuse to at least start reducing the magnitude of rate hikes. That interpretation was immediately reflected in the futures markets which, a week ago, saw the peak in Fed Funds at 5.14%, and now sees it at 4.85%. It also sees the December Fed meeting resulting in only a 0.50% hike, as opposed to the recent string of 0.75% hikes.

There was spillover to Canada in the expectation that Fed hikes will step down going forward. The peak in the Bank of Canada’s rate is now seen at ~4.25%, whereas yesterday it was 4.5%. Let’s see if this lasts. But it does fit with CIBC Asset Management’s view that the Bank wouldn’t hike as much as the consensus had been expecting.

Bond market reaction

There was a solid rally in the bond market, with the bulk of it coming after the U.S. CPI report. The first time that inflation underwhelmed versus expectations gives the Fed license to ease off on the brakes somewhat at upcoming meetings. It’s not a pivot, by any stretch. But U.S. CPI peaked at 9.0% in June, is now 7.7%, and is likely to keep heading lower as base effects are large over the next 8 months.

The corporate bond market was incredibly active this week as issuers rushed to beat the CPI report, fearing that rates could be higher by week’s end. Wrong call, but a benefit to bond buyers. Investment grade credit spreads held in nicely, but the high yield sector didn’t fare as well, although spreads are still below 500 bps.

Stock market reaction

Equity markets, globally, were roughly flat this week with pockets of Europe up modestly. In the U.S., media bellwether Disney was down 13% on disappointing earnings, after reporting a $1.5 billion loss at its streaming unit, Disney+. Content is not cheap and international expansion comes at a cost, but investors must be patient as a profit inflection can take time. Netflix is a prime example of how challenging this can be. Admittedly, Disney has done a great job launching a competitive platform that has amassed nearly 165 million subscribers. Introductory pricing has done its job attracting users, and monthly pricing is set to tick up. Intact Financial, the leading property and casualty insurer in Canada, also reported Q3 earnings this week. Across its numerous business units, Intact is seeing varying degrees of inflation which is impacting its operations. While pricing remains strong, it wasn’t as high as inflation in claims. On auto specifically, there continues to be parts shortages which result in lengthy car rentals to compensate policyholders. Luckily, an interesting piece of commentary from management is that inflationary pressures are easing gradually, which is a positive signpost on many fronts. Let’s hope this is indicative of a peak in inflation.

What to watch next week

Canada’s October inflation report is on the slate for next week, along with some housing market reports. The U.S. releases producer price data, along with retail sales, industrial production, housing data and the leading index

Disclaimer

Patrick O’Toole is Senior Portfolio Manager, Global Fixed Income; Adam Ditkofsky is Senior Portfolio Manager, Global Fixed Income; and Pablo Martinez is Portfolio Manager, Global Fixed Income.

The views expressed in this document are the views of CIBC Asset Management Inc. and are subject to change at any time. CIBC Asset Management Inc. does not undertake any obligation or responsibility to update such opinions. Certain information that we have provided to you may constitute “forward-looking” statements. These statements involve known and unknown risks, uncertainties and other factors that may cause the actual results or achievements to be materially different than the results, performance or achievements expressed or implied in the forward-looking statements. This document is provided for general informational purposes only and does not constitute financial, investment, tax, legal or accounting advice nor does it constitute an offer or solicitation to buy or sell any securities referred to. Individual circumstances and current events are critical to sound investment planning; anyone wishing to act on this article should consult with his or her advisor. All opinions and estimates expressed in this document are as of the date of publication unless otherwise indicated, and are subject to change with the exception of bond data, which is as of end of day the previous Wednesday, and equity data, which is as of mid-day Thursday. CIBC Asset Management and the CIBC logo are trademarks of Canadian Imperial Bank of Commerce, used under license. The material and/or its contents may not be reproduced without the express written consent of CIBC Asset Management Inc.