State Street Global Markets has launched what it believes are unique daily inflation indices for institutional investors, initially as timely reference points to help build protected investment strategies but potentially for use as tradable products in the future.
In partnership with PriceStats, a provider of high-frequency global inflation indices, State Street this week published a different index for each of the US, France, Germany, the UK and Brazil.
The firm aims to expand this universe to 35 nations this year, with Australia and Japan pencilled in for index launches next month. Other Asian territories it plans to cover are Hong Kong and mainland China, potentially in the fourth quarter of this year. India and Korea are also on the radar.
Only last week, Tom Byrne, a regional credit officer at Moody’s Investors Service, bemoaned the fact that everyone is subject to the limitations of official government statistics on inflation data. “At the end of the day, no matter where you are, you have to try to interpret what’s out there,” he said at our second annual debt investor forum. “You can’t develop your own inflation index.”
Yet Jeremy Armitage, global head of research for State Street Global Markets, points out that its indices offer a detailed daily measure of inflation that differs from what’s currently on offer.
“Inflation is a difficult problem to get your head around because the data quality is so poor, which is ironic given how important it is to setting interest rates, to relative currency or bond valuations,” he says. “The reason for that is we have to rely on government statistics agencies.”
He notes that PriceStats collects five million online prices every day from thousands of retailers in over 70 countries globally and aggregates them to create a single measure for headline inflation, using purpose-built proprietary algorithms that analyse and weight products and prices. “Once you have invested in the infrastructure, you can scale very aggressively,” he adds.
Armitage suggests internet pricing offers a more complete and timely picture of inflation than what government agencies currently provide, given that they tend to compile price information from shops in a mechanical fashion.
“PriceStats is typically showing price moves two to three months ahead of official inflation, so we will diverge from the official statistics,” he adds. “There is a lot more dynamism in the pricing of goods online. It may be because it’s easier to collect online than doing it mechanically and it could be a function that people buy differently on the internet versus going to stores.”
Asked what official data its indices contain that the PriceStats data doesn’t, Armitage mentions services such as education and healthcare, hairdressing and the purchase of airline tickets.
But he notes that State Street does provide a projection of its data for comparison with official statistics. “It is like a translation between the high-frequency price changes that we refer to and what we think that means for official statistics,” he explains.
“Maybe five years down the line that will be irrelevant if more and more prices are set electronically, but at the moment we think we need to provide a translation mechanism.
“Investors like comparability. That does potentially introduce a margin for error because it’s something that is done differently in each country, with different algorithms and ways of sampling.”
Armitage expects investors to use its inflation indices to help with the management of fixed-income products at first. “Professional investors need hard facts as frequently as possible so they can start to understand how their investment choices relate to inflation,” he adds.
“But I think down the line this could introduce a whole better way of thinking about problems. With the earthquake in Japan, we know there are very key components of the global supply chain that rely on Japanese manufacturers, but it is very difficult for an investor to analyse what that impact would be without really solid data in terms of what is happening to prices.
“I am not saying we can do it today, but this is the dream for the future, that we will actually be able to help our clients think about a price shock, be able to analyse their portfolio and make forecasts. And that is what I think gets investors really excited.
On the question of whether State Street might look to build inflation indices for investors to trade off, Armitage replies: “Potentially, yes. To do that we need to build credibility in the indices first of all and that is what we are trying to do today. But certainly it would be a key ingredient to offer these as tradable products.”