CPI weightings. We've got to talk about a few different things. First, we've got to understand: CPI weightings. We're going to understand what actually happens when energy shocks affect inflation, which is actually what we're expecting to happen on.

Tuesday An energy shock of inflation. What is the Federal Reserve Think about that and what's actually happening with companies passing on pricing increases. Who is left that is passing on pricing increases And are there some companies that actually are? Could those potentially be a red flag? Well, let's get started first by as I said, looking at the CPI weighting changes Now a lot of people have been freaking out about these waiting changes coming. We just got the data on how the weights are actually going to change and how those would have affected last year's data if we even consider them as applying to last year, which they don't.

So looking at last year's data doesn't even matter because last year's data had the weights that it had. Now we're looking at this year and we're going to look at the weights that this year has and this is how the weightings have changed. So what you're going to see on the bottom is you're going to see relative importance. So the more to the left they are, the less important they are and then uh to the right we are going to or and then up or down above the line we'll see.

Okay, well have they been increased in importance or decreased in importance? And what we find over here is that education and Communications have been slightly increased. uh in in importance Apparel slightly increased in importance Recreation slightly increased. What's actually gone down has been Medical Care Transportation other goods and services and food and beverages. Which was actually really interesting because food and beverages.

That's where you've got some leftover inflation and you're seeing that get weighted down. but you're also seeing housing get weighted up. Now that's really interesting that housing is getting weighted up because housing in total is going from a 42.4 weight to 44.4 percent weight. Now that is bad if you look at last year.

If you look at last year, it actually makes inflation somewhat and the year worse. Here's kind of graphically what that looks like you can see over here with the new changes: inflation ended higher. That blue line is with the new revisions and the dotted line is before revisions, but the Blue Line ended higher. That's because housing inflation actually popped off more at the end of the year than earlier in the year.

Housing inflation has still been rising and now housing is becoming more important. But what's fascinating about that is if we go to my thesis my my thesis of the hump of inflation which is that the first phase of inflation is we have Goods disinflation. Then by around June 30th we hit the end of goods inflation. We start getting harder CPI comps.

Which basically means it's harder to show that we've had a larger decrease over last year. It might take a moment before we actually start seeing that housing and wages inflation come towards the end of the year, but when we actually start seeing that housing disinflation, we really think that we're going to see inflation plummet. now. housing disinflation specifically comes from a measure known as owner's equivalent rents and we expect owners equivalent rents to really plummet.

I mean substantially plummet. And that's because CPI reads are really delayed when it comes to owner's equivalent rents CPI Reads: if you look on screen now here, show increasing CPI Rent: Even though actual new tenant rents are trending substantially down now, we are just about to hit the crossover point where we should start seeing CPI rent start falling. but most estimators suggest we won't actually start seeing CPI rent realize that actual rents are coming down until potentially the beginning of Q3 and that's because rents skyrocketed so much higher than CPI rent that you're actually still playing the 6 to 12 month lagged catch-up where in a weird way, CPI rents are still going up because they're chasing how high rents have gone, even though rents are already on this downslope. I Think the easiest analogy for this is think about it kind of like a roller coaster CPI Rent is going to do right going up the sort of chain lift of the of the uh roller coaster.

but everybody on the uh uh actual new rents is already like in the trough. Everybody's already kind of like wee like, or maybe not even at the trough. You're just on the down slope so you're kind of like that next car on the roller coaster. you're that CPI rent where you're kind of like, well, we're still going.

We expect the for CPI inflation to come, but because we're still going tick tick tick tick tick tick tick tick for for rental inflation and CPI it actually means we're still getting higher inflation reads even though we know the way is coming. So it's It's like kind of weird and kind of broken and then some people are like, well, what if what if the Wii doesn't happen because you know we get derailed off the tracks or something and and then obviously we have bigger problems, Then nobody wants to fall off the roller coaster because they you know Then you've got real big issues. But wildly or widely, the Federal Reserve and institutions believe that housing inflation is actually going to plummet uh, in 2023.. Now, what's remarkable about that is, if these CPI weights are actually giving more weight to housing in 2023, than it actually means we probably will see even more disinflation than we would have had if it weren't for these waiting changes.

Now, why are these weights being changed? Well, there are two ways you can think about why the weights are being changed. One way is you put the tin foil hat on and you go. They're trying to rig it to make Joe Biden look good before the election. Okay, that's one thesis.

The other thesis is the Bureau of Labor Statistics looks and says okay based on where prices are today, how much of the average consumer spending goes to housing? Well, we think more of the average consumer spending is going to housing this year than in previous years, and honestly, that's probably true. They also think that people are potentially going to spend less money on maybe going out and spending money at restaurants and dining. So they're lowering the relative weight of food and beverages. That doesn't mean you eat or drink less.

Uh, it just means that you might be spending Less on that relative to housing because housing costs have gone up so much. So that's why they make these waiting adjustments. Really in the grand scheme of things. Looking back to how these new weights affected inflation last year, doesn't matter because that's already in the books.

So there were a lot of Articles circulating on how inflation was higher last year. Because of these changes and weights, it doesn't matter. Forward, Not going. Uh.

The other issues that we have to talk about regarding inflation and that is the potential that inflation is still being is still relatively sticky. Now, one of the ways that we could potentially see that inflation might be sticky is by looking at companies that are still raising prices. So you've got this Uh, this. uh, you had a course member who actually reached out sent me an email of uh, their pet stores They operate seven pet stores in in uh, uh, you know, one part of the country just to keep it private I won't mention where uh and uh they're They're talking about how all of their food costs are increasing and this is very interesting because when you look at the list of and then they also anecdotally say that uh, you know they're even seeing the cost of toys increase and they expect to pass on some of these these price increases.

And so this is this anecdotal argument and also with their evidence that that prices are going up for Foods Now interestingly, you could actually look at a company like Tyson Foods and you can also see that prices are going up uh for a certain like Meats Fish is getting more expensive, meats are getting more expensive. uh, beef is getting more expensive and one of the reasons you're seeing this sort of increase is because uh, cattle, uh has been uh, less uh, available and when there's lower apply, the cost of meat goes up. But it's not as simple as saying okay, cost of meat's going up, therefore everything's going to get priced in and you're going to see food costs go up. What you actually end up happening is you get to a limit where at some point the consumer will no longer pay the higher prices.

And so to try to corroborate what the individual was saying who sent me this evidence that that food prices were still going up at pet stores and potentially toy prices as well is I Looked at the chewy earnings call so we know Tyson I'll give you the bottom line on that. We know Tyson's saying yeah. Look our food prices. our input costs are going up.

Those are producer prices. Our producer prices are going up for Meats But get what it Tyson Tell us Tyson's like the problem is we can't raise prices anymore because people aren't buying Meats as much as they were Now you might think that's crazy. Like how are people buying less chicken and beef because it's a food like that should be an inelastic good, right? Wrong! When food or prices for Meats go well, people just go buy something else. They go buy eggs.

price of eggs goes up, which they have substantially. Okay, then you go buy rice and beans like you have the ability to choose different force or sources of calories. You don't have to buy the expensive stuff anymore. So what a Tyson Foods complain about.

Just to finish the argument on Tyson we'll Tyson Foods Like dude, we are having a problem. Our margins are getting squeezed substantially and uh, this is why they're warning here it is on screen. They're warning about how Q2 is going to be some seasonally softer variable pricing models lag. We caught up with pricing as much as we could basically and they had somewhat of a confusing earnings call.

But basically Reuters had a very good summary of it. They're like, look, they took a hit because there was weakening demand for chicken and uh, and basically their margins are getting hit and they don't think it actually makes sense to keep investing in even more production because people are just demanding less And so it's kind of like do they want to go through the capex? No. So they're kind of between a rock and a hard place. As really a commodity supplier, right? they're supplying a commodity.

Chicken is mostly a commodity. Now they try to argue that they have pricing power on some of their branded products. But what is Tyson Seeing margins getting smashed? And when margins are getting smashed, you really don't have much pricing power. And to the point where you start potentially losing money because your margins are getting smashed, you're in a bad situation.

So what does Chewie tell us? Well Chewie was an interesting earnings call because Chewie says look, we're still able to pass on price increases and I thought that was very interesting and actually somewhat concerning Now Chewie Mentioned this as of the Earnings call of December 8th 2012. Now keep in mind I don't want to be the guy who comes up with a narrative and then only feeds you information for that narrative I am going to give you red flags and I'm going to give you counter arguments to what I believe right? I Believe we are going to see massive disinflation Over time. However, there are still Embers and Chewie actually gives us an ember. Chewie talks about how, uh, at least in the initial part of their report, they talk about how they're still able to pass on price increases and that they have strong pricing environment.

Uh, and we believe that you know that's how the pricing environment looks great at the end of Q4 going into the first part of of 2023. so pet suppliers still passing on these price hikes. But what was fascinating was this. And I'll sum it up here.

they basically talk about how we're no longer going to pass on multiple rounds of increases, we're going to do maybe one more set of price increases. and by the second half of the Year we're done. We can't pass on any more price increases. And that's partly because we think if we keep passing on prices, we're going to see that drop off in demand.

But on top of that, listen to this one. I Never thought of this one before, but they say pet household formation is flat or negative. Yeah, listen to that. pet household formation is falling.

Okay, When people and you have to think about this, it's like there are certain amount of animals. Animals have a choice. Well, they don't have a choice. but but people with animals have a choice.

But animals either end up uh, like basically in a shelter or they end up uh, in in a poor household which will put in the same bucket as a shelter. I Know that sounds harsh. Okay, a a poor household can be loving as well. But I'm making a point here is that a shelter is going to feed uh, the the Kibbles the the hard food right? the dry goods.

we'll call it dry food for the animals. So a shelter gives dry food for the animals and a poor household is going to provide dry goods for the the food to eat a wealthier household is going to provide. you know, no new toys and and the fancy like the salmon meals and the chicken meals that come in the cans for like the cats and the dogs, right? They're gonna spend money on all the premium food rather than basically the basic food. And so if you create less new households, that means you potentially start seeing people who are spending a lot of money on their pets, spend less.

So you potentially start moving wealthier households to the style of spending of poor households. But if you're also creating less new households in the get-go Well, who's most likely to spend on their pets like crazy? Well, the newer households and then eventually people like damn, we're spending way too much money on the animals. We got to start spending like, like the poor households, right? And and so that's where lower pet household formation actually reduces. Uh, the the demand for premium foods for animals.

So this is where Chewy Even Chewy is telling us. Yes! Look, we are going to be able to. In 2022. we were able to do let's just say four price hikes in 2023.

We think we're going to be able to divide the year in half and we'll be able to do one price hike in the first half and zero price hikes in the second half. So you're even seeing where the Embers are the disinflation charted And this is why I Really believe that that disinflation is coming. Because even where the Embers are, you're seeing that disinflation. Come now.

One of the very few places you're still seeing like hot inflationary Embers is Aerospace Yesterday in the course member livestream, we were looking at the GE earnings release and as well as the GE earnings call and that is one place you're definitely still seeing inflation. And I can tell you as a plane owner, the shortages that still exist in the plane industry suck ass. They're really, really bad. That's okay.

should be flying again next week. Uh I Got a new windshield put in. Uh, my plane got upgraded. Let's go.

Uh anyway. So uh so there are still Embers in the economy right? But we want to pay attention to are those Embers going away or are they still burning stronger? Yesterday we were talking about how we're starting to see this massive wage disinflation happen, right? Uh and uh Uber 36 more drivers Lyft extreme surge of new drivers as you increase the labor Supply you decrease the pressure on wages. So everything's pointing to disinflation. The question now is how long is that disinflation going to take? right? And now this is interesting because Nick T He shared a piece on the impact of energy hikes on inflation and he basically shared this piece which when he shares a piece, we think it's basically the FED giving it to him and sharing it And so he shared.

This Research search about the inflationary impact of energy prices on longer term inflation. And basically they make the argument that contrary to popular belief, The Surge of inflation in 21 and 22 was not primarily caused by Energy prices. And they say in the piece that covid shattered these popular beliefs that even though it feels so similar to the energy shock of what we saw in the 1970s, inflation ultimately is driven by people's ability to spend money, not by Energy prices. And they talk about how yes, eventually, higher energy prices could get passed on uh, through the prices of other goods and services.

but the limit the ceiling on those prices is ultimately what people are able to pay. And as a result of their modeling and this is just you know. one one study here that's shared by the Federal Reserve, Bank of Dallas uh and Nikki T. They suggest that one-time unexpected increases in gasoline prices do sharply increase headline CPI but that impact only persists for about two months before having an indistinguishable from zero impact on future inflation.

In other words, there's no evidence that persistent inflation is caused because of a gas or energy price shock. That basically you end up only having the energy price shock to the extent that energy prices keep Rising. But as soon as Energy prices fall, that longer term inflation impact doesn't exist. you go right back to sort of that disinflation environment.

That's interesting. But what's more interesting is that they're sharing this piece right before a CPI read that we think is going to be hot because of energy prices. Energy Prices went up over the last 30 days and we think the CPI read on Tuesday is going to be hot. Uh, so you know this is.

this is kind of interesting, right? Uh, So now the reason this is so important is because everybody and I hear this all of the time and I just I Ideally want to try to put it to rest just by making it really really simple. People are like have it. but Kevin prices went up so much, how are we going to get them to go down again when inflation? six percent. That is not the question.

The question is not. how are we going to get prices down. That's what's so important to remember about the Federal Reserve. The Federal Reserve does not care that your life just got more expensive.

Okay, I should not say that because I I do believe that at the heart of it. people like Jerome Powell probably care about you. Uh, but but let's be real. As an institution, the Federal Reserve does not care that things are expensive.

They care that things are stable. and as long as prices are stable, even if they are stable High they're good. They've done their job so prices do not have to come down. and I think that's the important thing to consider is fine.

prices don't have to come down. So what does that mean? Well, that means people are going to have less money to spend on stuff. Which means you really want to double down on looking for companies that have a lot of pricing power because like Tim Cook says people will stretch to buy their iPhone But maybe that means they're not going to The Cheesecake Factory as much anymore and the wealthy people instead of dining at the Cheesecake Factory are going to Chipotle And the people who used to go to Chipotle that are poor are like I can't go to Chipotle anymore because it's too damn expensive. I'll just eat it all right.

So like you, you do get that sort of trade-off that happens and that's the question. That's the big question is, how does the recession impact company earnings? But the inflation shock should go away. and so far, every leading indicator is suggesting it will go away with the exception of Aerospace travel and and uh, air traffic really being an impactor there. And one of the reasons you have that is because the airline industry is still smaller today than it was in 2019 which is just insane.

Like the pandemic really ruined uh uh, you know what? what? Um, what you have in Aerospace And that's why you have this insane inflation in in uh Aerospace But uh. but in general, everything will go down right. Like, like prices eventually come down. Now it takes long time.

you know, a lot of people like Kevin. But egg prices. Yeah, egg prices have started coming down. But one of the things that's interesting is you could also raise more chickens.

but again, that takes time, right? That's the pro. That's the real question is how long is it going to take So it takes time to increase chicken production. But then again, remember, eggs are not an inelastic good. You can eat things that don't include eggs.

I Mean vegans survive, right? So like you can get off of eggs. Uh, so so that is something to consider. Generally, things that are considered purely inelastic, which means people must buy it no matter what the price is It's a vertical supply curve, right? Or a demand curve like you you will. You will buy it no matter what the price is.

Your demand is a hundred percent no matter what the price is. Uh, is like insulin, right? That's an example of something where you have purely inelastic demand. But uh, you know you, you don't want huevos anymore because they're really expensive. You go eat rice.

Uh, right. It's simple. uh, and the economy broadly makes that decision. You know you might say I don't care if the eggs are a dollar more? I'm gonna keep having eggs because you like eggs in your face I Don't know uh, what what you're into.

You can do whatever you want. But uh, you know that that doesn't mean broadly. as an economy, the economy won't adjust uh to to fewer eggs.