While goods prices are hogging the spotlight at the moment, rental inflation is a far bigger and more important driver of the medium-term inflation outlook.
As we discussed in great detail recently (see "What Rental Hyperinflation Looks Like: "Soaring Prices. Competition. Desperation"), the buzz has been one of rising, sorry, exploding rents and as BofA observes today picking up on our earlier notes, a number of high-frequency rent trackers show the rental market bouncing back with a vengeance. As shown below, the Zillow Observed Rent index rose 1.9% mom NSA and 9.2% yoy in July, while ApartmentList rents were up 2.3% mom NSA and 12.5% yoy in August.
Press releases from subscription-based sources CoreLogic and YardiMatrix paint the same picture, with the CoreLogic Single Family Rent index up 7.5% yoy in June, YardiMatrix single family rents up 13.9% yoy in August and multifamily rents up 10.3% yoy.
Needless to say, these numbers are clearly far and away higher than what we are seeing in OER inflation. There are two important considerations when translating the high-frequency data to OER, which tends to have a much smoother and lagging trajectory.
- First, the BLS collects rents on a 6-month rotating basis and converts the 6-month change into a monthly change.
- Second, these high-frequency rent trackers reflect market rents, or rents that a new renter would pay, which are more volatile than the rents paid by existing renters (i.e. those who do not move).
That said, BofA believes - as do we - that the signal from the high frequency data is informative for the outlook and suggests OER can surpass the prior business cycle’s high of 3.6% yoy. In fact, OER could easily reach 4.5% yoy (or higher) next year, which would imply average monthly growth of 0.37%. This reinforces an issue that we have been flagging for a couple of months: while the debate around inflation seems to be focused on when and how quickly “transitory” factors will normalize, “persistent” inflation has steadily moved up to a historically elevated rate.
Meanwhile, despite the Delta disruption, the economy is expected to grow above trend for the next several quarters. Therefore underlying inflation - especially for sticky items like rent - will continue to rise, keeping the Fed on track to start hiking in 2023.
Rent aside, today's CPI report, which is expected to show a fourth month of U.S. inflation at 5% or more, will shape investor expectations about the likely timing of the Fed taper. In terms of what to expect, DB's economists think there’ll be a deceleration in the month-on-month figures for both headline CPI and core CPI, which should largely be a function of demand continuing to soften in Covid-affected sectors. They see the monthly readings at +0.4% for headline and +0.2% for core, both of which would be the slowest in six months; the YoY print is still expected to be 5.3% and 4.2% for headline and core respectively.
That said, US inflation has had a regular habit of surprising to the upside in recent months, and you have to go back all the way to November’s print to find the last time that month-on-month headline CPI came in beneath the median estimate on Bloomberg.
Base effects are unfavorable once again this month, which means the % yoy rate (NSA) would slow to 4.0% yoy from 4.3% previously. The two drivers of transitory inflation strength earlier this year, the goods shortages and reopening of the economy, have faded further this month. Within goods, used cars are likely to decline as wholesale used car prices began to turn lower in June, with the Manheim index down 4.2% from the peak through August. New car prices will be a positive offset but are also likely to cool after averaging a strong 1.8% mom over the prior 3 months. JDPower forecasts average transaction prices (ATP) of $41.4k, which reflects a 0.8% mom increase from their July forecast, while Truecar data point to relatively flat ATPs from month to month. On the upside, there could be some strength in apparel prices as tight inventories could lead to less discounting during the back to school shopping season.