This unlocked research note was originally published on June 30, 2014 at 16:39 in Macro
A sign at Chipotle in NYC notifying customers of “conventionally raised” steak has been up for two months now. Chipotle is either seeing outright supply scarcity or experiencing supply shortages at a price it’s willing to pay.
Granted this is only one location, prices have recently increased +8.3% for steak and 11.1% for guacamole at New York locations… And for “conventionally raised!” With the exception of a -3 bps correction in front-month live cattle futures during the week ending June 20th, Livestock prices closed in positive territory every week this month:
June 6th: Live Cattle: +1.7%; Lean Hogs: +1.1%
June 13th: Live Cattle: +5.3%; Lean Hogs: +1.2%
June 20th: Live Cattle: -0.3%; Lean Hogs: +10.3%
June 27th: Live Cattle: +3.2%; Lean Hogs: +2.4%
Rather than making a call on the direction of agricultural and soft commodity prices on a daily basis, we accept that the speculation of supply shortages can whip prices for a number of reasons outside our control. What we choose to dissect is the consumer and outlook for the U.S. dollar. For the first half of 2014, the consumer slowed and will continue to face similar headwinds in 2H:
- A Fed revision for 2014 full-year GDP from 3.0% to 2.1 - 2.3% at the last FOMC meeting will likely face a further downward revision after a -2.9% Final Q1 print last week
- The Fed gets more dovish with the data
- The bond market adjusts for growth expectations and the prospect for future dollar devaluation perpetuates the yield spread compression
- Commodities, which are priced in U.S. dollars, face continued pressure to the upside
Unfortunately this headline commodity inflation is not considered the kind of inflation that concerns the Federal Reserve formula. Forgive us on the repetitive call-out, but the Hedgeye Macro team felt the following article from Reuters last week was an epic interview with Yellen on the linearity of the Fed’s model.
Every FOMC meeting in the last several years precedes an abundance of financial media punditry that dissects the sequential change in the language of each statement. Although rare, we enjoy this direct commentary in the Reuters article for insight into the assumptions made by the fed machine:
"My own expectation is that, as the labor market begins to tighten, we will see wage growth pick up some to the point where ... nominal wages are rising more rapidly than inflation, so households are getting a real increase in their take home pay," she said last week, adding: "If we were to fail to see that, frankly, I would worry about downside risk to consumer spending."
Janet Yellen is, in this quote, referring to her belief in what is called “money neutrality” which is basically the idea that prices and wages move together without harm over the intermediate to long-term. In our opinion, she sounds rather nervous in her assessment of this “reality".
To further quote the Reuters reporter in this article:
“Over the last year Fed staff changed their main model for forecasting wage and price inflation to reflect evidence that companies were adjusting prices more slowly than in prior years. That implies the Fed has more time to allow wages to rise and employment to expand before having to be concerned about inflation accelerating.”
This seems like a convenient way to make room for an extension of accommodative policy as wage growth has stagnated against a flat dollar and skyrocketing cost of living…
Income earners save less and spend more with an increase in cost-of-living:
Our process points to Fed and consensus full-year growth and inflation estimates that are still too optimistic. Yellen’s comments point to the predictable FOMC policy response that we have continuously highlighted as a catalyst for further dollar devaluation. With the CRB Index up 10% in 2014, both the dollar and ten-year treasury yield remain in @Hedgeye bearish formations.
Ben Ryan
Analyst