As we wrote yesterday it’s all about inflation as expectations continue to tail off after they rose late 2016 and early 2017. So today’s briefing very much has an inflation theme looking at why inflation expectations are declining, where it might emerge from again, and from what sectors. We also include research that looks at gold and blockchain technology. Bitcoin is getting a lot of attention at the moment, but it’s important to understand the underlying technology and what its likely macro impact will be.
Substantive's Top Themes - Best of the Broker Notes
1. Food, Glorious Food, is Getting More Expensive
Peter Warburton and the team at Economic Perspectives produce some of the best work we read on inflation, here at Substantive Research, from the very big picture, to a component level and some excellent global heatmaps. We certainly recommend that you take a look at their work. In their latest Global Inflation Update they write that as expected, global inflation has paused after a breathless rush since last summer. While advanced economy inflation is seen to be consolidating, emerging economy inflation is waiting in the wings to shock and surprise. This inflation will migrate through supply chains and networks to drive a second wave of global inflation. Click below if you'd like access to their reports on inflation. They're very happy to provide samples.
2. ECB and the ‘More Core’ Inflation Rate
You're probably full on ECB previews, so we'll steer clear of that today and highlight some work from TS Lombard that delves into looking at how inflation can be measured in alternative ways. TSL write that with inflation being a key factor in ECB policy, the spotlight will remain on core HICP inflation and its various influences, including the output gap, labour market slack and wage trends. To that end the ECB has created its own measure of underlying inflation, known as ‘super core’, which includes HICP items which have a significant relationship with the output gap. The idea here, say TSL, is that it will allow the ECB to obtain a better gauge of potential turning points in core inflation in response to changes in economic conditions. TSL have gone a step further with their own 'similar but different' model. By following a similar methodology to the ECB, but adding in measures most sensitive to a closing of the output gap, which they call the ‘more core’ inflation rate. Using similar values for output as the ECB estimates, and adding additional HICP items considered statistically significant, the ‘more core’ measure of inflation shows signs that it has been picking up since autumn 2016. If you would like to read the full note, click below to contact the provider to request access.
3. Japan; Inflation Imminent but Tapering is Not
We've been reading a lot lately about declining inflationary expectations in Japan and so wanted to highlight this non-consensus piece from UBS, published late last month. According to the report, the BoJ's inflation forecast misses have stemmed largely from the consumption tax weighing on growth plus the plunge in oil. Assuming no further policy mistakes or exogenous shocks, econometric modelling shows how an increasingly positive output gap alone should lift core CPI through 1% over the coming months. To secure the 2% target, however, requires a significant step up in expectations, writes James Malcolm, chief economist for Japan at UBS. According Malcolm, herding behaviour in pricing could be key because which in Japan tends to cluster around fiscal year- and half-year end points. This October will be a litmus test for gauging underlying inflation pressure given newfound labour market tightness, says Malcolm. Meantime, investors shouldn't get hung up on tapering, Malcolm adds. Fear that the central bank will soon adjust its stance on yield curve control is misplaced. This is likely to happen in 2018 at the earliest. UBS clients can find the full note under the same title above on UBS NEO.
4. Blockchain and Digital Fiat Currencies
With all the hype about bitcoin currently we thought we'd highlight some sector research that encompasses bitcoin. CM Research continue to impress with their extensive thematic reports on emerging investment themes in the technology sector. This report focuses on blockchain technology, which they argue will be a radically disruptive and transformative force in the world economy by 2030. Within the next 12-18 months there will be early evidence of its scope and prospects, the report says. The section on digital fiat currencies can be found on page 14. These ‘single theme’ reports fit into CMResearch’s overall research methodology – where they produce four tiers of thematic reports to help their clients select stocks: Single Theme, Multi-Theme, Sector Scorecard, and Best Ideas Report (These reports include our high-conviction stock ideas). If you'd like access to the vast amount of research CM Research have published in this space click below to contact the provider directly.
5. Gold Monthly: An Uncertain Future
In the latest edition of their comprehensive gold monthly Redward Associates decomposes the main drivers of gold prices to understand the supply and demand dynamics and the valuation outlook. Redward has a mildly bullish stance on gold, where he believes that the US economy will continue with the re-emergence of inflation and a gradual tightening of monetary policy, leading to temporary strength in gold. Redward’s gold model is driven by the value of the USD — after all gold is priced in USD — the yield on 10-year government bonds which captures the opportunity cost of holding gold, and the Bloomberg base metals index which captures substitute stores of value and also acts as a proxy for global demand. At present, this model suggests the ‘fair value’ for gold is around USD1,274/oz, implying modest near-term upside to the price of gold, while a decomposition of the constituent drivers suggests that it’s been boosted by all three factors. If you'd like access to this monthly report, click below to request from the provider directly. They are happy to provide on a case-by-case basis. Redward also produces an excellent Iron Ore and Steel Monthly and a Dairy Monthly (where we consider Redward to be the industry expert).