“Generally you would think more information is useful. Unless it's useless information.”
The Fed's June dot plot showed nine policymakers projecting at least one rate hike this year, with six hawkishly suggesting multiple hikes could follow. The plot - a quarterly readout of what nineteen individual Fed officials think rates will do next - has been notoriously inaccurate in the medium- and long-term. Under new Fed Chair Kevin Warsh it may not survive the year.
More disclosure sounds like transparency, which we all want, but according to Dr. Peter Linneman that’s not true when the disclosure is unreliable and unhelpful. In other words, the dot plot and much of the exposition and nuance in the Fed’s recent public materials introduce noise with little value, and Warsh's committee shortened its official statement at the same meeting in a related acknowledgement. "Stick around and we'll tell you when we know what we're gonna do, not endlessly give you clues," is how Linneman describes the new approach.
A general consensus of restraint showed up in the committee's decisions to hold rates steady in June and July, despite a real split inside the room. "I think there's a group that pretty much looks at headline inflation, and they say that we should raise,” Linneman says of the disagreement.
With energy and food being the biggest contributors to inflation, and energy being a cost category that has moved independently of rate-setting decisions, it’s not clear the Fed could do anything about the recent inflation spike even if they wanted to. “There's probably more [members] saying, wait, we don't have any control over that. Why would we do anything? Let's just all wait and see," Linneman says. It’s hard to say what happens next and may be getting harder as less information comes out.
As an aside, Linneman's personal view differs from the committee's decision: He'd have cut rates 25 basis points, not to stimulate the economy but to correct what he sees as a rate priced above what actual inflation warrants… more on that below. But he calls the wait-and-see approach a sensible institutional choice given how divided the committee is and how little a quarter-point move would change the economic landscape in the next few months.
"I'm not saying cut rates to stimulate the economy. I'm saying get the rate down to where it makes sense from a capital market allocation point of view."
With the Fed narrowing its own commentary, you can make your own inflation calculation, Linneman-style. First, start with core CPI (in green, here), which is inflation less energy and food price changes. Remove housing costs, including owner-equivalent rent and rent paid by renters, entirely. The former is a contrived cost estimating what homeowners would hypothetically charge themselves in rent, which is nuts, and the latter is an important figure but the Federal Government isn’t good at surveying it. So, add back in an informed sense of inflation in what renters are paying - learned from market data - which for several years has been effectively 0%.
Running core inflation through that adjustment — stripping owner-equivalent rent, setting renter rent growth at zero — produces a figure of 2.3%. That's roughly where core inflation sat for the two years before the recent oil-driven price spike, and it hasn't changed throughout the Iran conflict. The thought for investors is that there will be a gradual reversion to this ‘true’ inflation figure in the future. If the Fed is holding at a rate the adjusted number doesn't support, the premium in today's long fixed-rate quotes is temporary, and locking a ten-year here prices in an inflation rate that isn't there.
From The Margins
A little of what’s out there.
Ever wonder why vanilla costs what it does?
Vanilla is the second-most expensive spice on earth after saffron, and the reason is that nobody has ever figured out how to industrialize it. The orchid blooms once a year for less than a day, and outside its native Mexico it has no natural pollinator — so every flower on every vine gets fertilized by hand, by a person with a toothpick, using a technique worked out in 1841 by a twelve-year-old enslaved boy on Réunion. The vine needs three or four years before it produces. The pods sit on it for nine months. Curing takes another four to six. Roughly 80% of world supply comes from one cyclone-exposed stretch of northeastern Madagascar.
So: four-year supply lag, no labor substitute, single point of weather failure. Prices ran from about $50/kg in 2014 to near $600 after Cyclone Enawo hit in 2017 — briefly above silver — then collapsed to the point that farmgate prices no longer cover the cost of pollination. Everyone who planted into the boom is harvesting into the bust.
If that shape looks familiar, it should. It's every development cycle you've ever underwritten, just with orchids.
A great read: https://nautil.us/the-boy-who-was-king-of-vanilla-522772
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