US inflation not expected to drop as quickly as markets anticipate

Markets appear to be too optimistic about the pace of cooling, Goldman Sachs says

Shopping in the Brooklyn area of New York City. Inflation slowed in the US last month. AFP

Inflation in the US will not come down as quickly as markets are currently pricing, strategists at Goldman Sachs Group have said.

Investors could be assuming that a sharp deceleration in growth will lead to a more rapid easing of price pressures, and tending to be more bearish on energy prices than what is implied by commodities futures, strategists led by Praveen Korapaty wrote in a note on Friday.

They see limited ability for those things to lower prices, and say markets are also ignoring the potential for “delayed-onset inflation” in sectors such as health care.

“Although we expect further declines in inflation going forward, markets appear considerably more optimistic than we are about the pace of cooling,” the strategists said.

The Federal Open Market Committee paused its series of interest-rate hikes Wednesday, but policymakers projected rates would move higher than previously expected in response to surprisingly persistent price pressures and labour-market strength. Meanwhile, US short-term inflation expectations fell in early June to a more than two-year low, helping drive consumer sentiment higher.

Fundstrat’s head of research, Tom Lee, said in a note on Friday that price increases could ease, potentially this year and possibly amid a drop in the shelter or rent component of the consumer-price index. The stock market is beginning to come around to that view and it probably explains much of the gains year-to-date, he said.

“The Fed can end this inflation war (aka pivot) when the collective public believes inflation is broken,” Mr Lee said, and his best guess is that it “will be sometime in 2023.”

Goldman, meanwhile, even has a trade for those who share the viewpoint that price increases will remain sticky. The firm’s strategists recommend investors buy one-year swaps to bet on inflation realising higher than current market pricing.,” the strategists said.