October inflation a punch to the solar plexus of the ‘transitory inflation’ brigade, Ireland missing out on millions of tonnes of carbon sequestration because of licencing backlogs and rent inflation continues to grind higher in Q3 according to Daft.ie. All these stories and more are covered in this week’s insights update from BlackBee.
Last week’s October inflation reports were another blow to the solar plexus of those investors arguing this year’s price rises are transitory. Instead of the slight easing that was anticipated by investors, US headline inflation spiked to 6.2%, up from 5.4% in September and representing the fastest pace of price increases since 1990. Closer to home, Irish inflation in October also showed a similar trend with prices rising by 5.1% over the past year, the highest inflation rate since 2007 (see our Chart of the Week this week). On the producer side, Chinese factory prices again outpaced expectations, rising by 13.5% in the year to the end of October which again will likely feed through in time into higher consumer prices for finished goods from children’s toys to electronics.
Throughout this year we’ve argued that investors should prepare for higher inflation than they’ve been used to for the past twenty years and the persistence of higher prices, still increasing energy costs and supply chain problems all suggest relatively high inflation rates will stay with us for some time yet.
In terms of the growth outlook, we previously commented that supply chain issues are robbing the global economy of some momentum of late and as a result we are beginning to see some chipping away at growth forecasts for 2022. The European Commission seemed to echo these sentiments while still painting a very positive outlook for the Irish economy as it published its Autumn economic forecasts. Although Irish GDP is forecast to grow by 14.6% and 5.1% respectively in 2021 and 2022, it noted the negative impact that mounting COVID cases and supply logjams could have on the Euro area economy adding that the balance of risks to growth in 2022 had “tilted to the downside”.
The release of Q3 earnings reports over the past few weeks provided equity investors with some positive respite from mounting concerns over slowing economic growth and persistently high inflation. However, the October US inflation report noted above brought some of these concerns back into sharp focus. Again, the report reopens the debate about the pace of interest rate increases at the US Federal Reserve once its bond taper is out of the way. In our view although economic and stock market fundamentals such as company profits and cashflows should improve into 2022, tighter monetary policy could cap the upside for equities next year. Speaking of stock market fundamentals, the impressive Q3 earnings season is now drawing to a close with S&P 500 companies in the US posting a very healthy 42% increase in profits over the past year.
Not surprisingly the shock October inflation data in the US weighed more on the government bond market than anywhere else last week. This was particularly evident for short term bond markets with two-year bond yields rising by close to 0.1% in the US, leading to bond price falls. Performances in the credit space were better while inflation linked bonds continue to benefit from rising inflation rates. As we see in our performance table, inflation ‘linkers’ have been one of the best performing sectors in the bond space this year.
On the whole last week was a positive one for commodity investors although we did see more intra week volatility in oil prices than we’ve seen in some time. OPEC’s downgrade to 2021 oil demand forecasts could have been a factor here – oil demand forecasts were reduced by 160,000 barrels per day in response to weaker demand from heavyweight users like China and India, a recognition that COVID is hampering the recovery in emerging economies and that high oil prices are beginning to exact a toll in terms of weaker economic demand. The big winners last week were the precious metals with silver and gold both spiking sharply in response to the shock inflation data released.
Real Estate – Strong demand and weak supply drive rising rents
Last week Daft.ie released its latest rental report which saw national rents on average climb by 2.6% for the third quarter, the largest quarterly gain since mid-2018. Market rents are now 6.7% higher compared to this time last year, the highest rate of rental inflation since the first quarter of 2019. The rise in rents has arisen due to a combination of strong demand caused by underlying economic and demographic growth and very weak supply. The stock of rental accommodation across Dublin was down 51% on last year, with only 820 homes available to rent as of November 1st, the first time the stock has dropped below 1,000 since Daft began the dataset. Dublin is not alone in this regard with Munster, Leinster (excl. Dublin), Connacht, and Ulster all recording their lowest rental property stock since the dataset began. This suggests upward pressure on rents will continue in the short term.
Hospitality – Aer Lingus targets a return to 90% pre-pandemic capacity as travel restrictions ease
Last week saw Aer Lingus return to the transatlantic skies as it recommenced flights to North America. From the hotel sector perspective, the resumption of flights was also accompanied by some interesting comments from Lynn Embleton, Aer Lingus CEO, who said that by making costs more competitive and building the brand it should be able to grow its long-haul business and achieve a 6% transatlantic market share. Aer Lingus is currently flying 50% of its pre pandemic capacity and believes it can reach 60% by Christmas this year and 90% by summer 2022. The target of 90% is based on the extension of the employment wage subsidy scheme for airlines and the €90m pledged to the aviation industry in the 2022 budget which will allow it to cut charges levied on airlines. The boost in operating capacity for Aer Lingus and other airlines as the industry recovers should in turn help the tourism sector recover throughout 2022, especially as business travel improves.
Forestry – Second project woodland interim report shines another light on licence backlogs
The second project woodland interim report was released highlighting that “a significant improvement in licensing output is being achieved” – a comment that raises some eyebrows considering that of the 4,097 new forestry applications this year only 3,158 were approved thereby adding 939 licenses to the backlog and bringing the total number of applications in the system to 5,462 (2,375 of these have been in the system for over 13 months). As well as costing forest owners and the construction sector in terms of lost timber output, this backlog also causes Ireland to miss out on millions of tonnes of carbon sequestration. On average every hectare of new forest offset’s 150 tonnes of CO2 throughout its lifetime, that’s 150,000 tons for every 1,000 hectares planted. At this rate Forestry Ireland estimates Ireland will need to plant roughly 15,000 hectares per year to reach net zero by 2050, with only 2,300 hectares set to be planted this year as a result of the licence logjam.