Analyzing Canada’s recent 5.9% CPI Print and Why It’s Not As Bullish As You Think.
Recently, the Canadian headline Consumer Price Index (CPI) was released at 5.9%, which was 40 basis points lower than the previous report of 6.3%. This may suggest that inflation is slowing down and everything is improving, but this is not the full picture. Inflation in what people feel the most is still elevated and on top of that demand/growth continues to slow.
One example of negative demand is manifesting in the housing sector through the repricing of Home Equity Line of Credit (HELOC) with current market rates. This has caused many Canadian households to pull back on using their home equity for home renovations and furnishings, leading to lower demand, as evidenced by the recent decline in Home Depot’s sales.
Over the past two decades, Canadians have used their HELOC as a high-risk investment tool, including purchasing more real estate and speculating on risky investments such as crypto and pot stocks.
The trimmed mean figure used to measure the CPI is misleading as it excludes 40% of the total CPI basket by removing 20% of the bottom and top of the distribution of price changes, effectively removing food and energy costs, which are essential to everyday life.
Food inflation has increased by 10.4%, with food at home inflation reaching 11.4%. Although shelter costs decreased 40 basis points, it was primarily due to a decrease in household utility costs, but owned accommodation costs, which make up 70% of the shelter category, increased by 10 basis points to 6.6%, largely due to a 21% increase in mortgage interest costs.
The decrease in the headline CPI was mainly driven by disinflation in discretionary categories such as clothing, footwear, recreation, and household services.
The Canadian economy is heavily dependent on the housing market and has high exposure to variable interest rates, combined with the rising costs of everyday living, which are putting pressure on Canadians’ cash flow. This year, 15% of all mortgages are set to renew, adding to the already escalating balance sheet recession.
In conclusion, Canadians are experiencing a shift from a regime of ample liquidity, low interest rates, and deficit monetization, which favored debtors with leveraged assets, to a regime characterized by slowing economic growth, rising interest rates, and elevated inflation at key consumer cost centers. This shift is causing a demand destruction and cash flow crisis for many Canadians. The longer rates stay where they are, the more economic deterioration the Canadian economy on the whole will experience, and even with the current headline inflation print, it is still far from the target 2% rate, so there is no sign of an rate cuts for 2023.
Many of the data points in this article were taken from Hedgeye Risk Management.