Bond investors are increasingly on alert for inflationary pressures. The strength of the global economy has fed into an existing narrative focused on surging commodity prices and its impact on key inflation measures – in December, for instance, Oil prices were up 4%, Copper up 6% and Iron Ore up 7%. Copper is now 30% higher than this time last year and Brent Oil is up 50% in just six months. Even the CRB RIND index, which is often less volatile, has bounced sharply back towards its highs. According to analysts at Morgan Stanley in Europe, inflation expectations are now close to three-year highs, especially when measured through something called breakeven rates. Analysts at Barclays have not unsurprisingly started raising their inflation estimates for 2018. They now project global headline inflation to be 1.7% in both 2018 and 2019 (up from 1.5% and 1.6%, respectively) and reach 1.8% by 2019-year-end.
What’s remarkable though is that many investors are spooked by these small upwards revisions. In reality, global inflation rates are still well long-term levels. The chart below from the US Federal Reserve shows inflation expectations since the late 1970s. Levels of 3% would still only be at the average level experienced over the last 50 years and well below the levels seen in the late 1970s. Inflation expectations also hit 4.6% in April 2011 before falling back sharply as the global economy started to lose speed. Are we due another surprise on inflation – with a slowdown in expectations not far off?
source: The University of Michigan, University of Michigan: Inflation Expectation [MICH], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/MICH, January 12, 2018.