Market Pulse: Dog days?
Forget what used to be called the “dog days of summer” when little if anything happened on Wall Street. Volatility is back.
On Monday, stocks fell on Delta variant fears along with profit taking. Then they recovered when investors remembered that March 2020 was a good time to buy, not sell.
Ordinarily, the financial and general media pay little attention to bonds and the credit markets, which are of little interest to readers and viewers. But these are not ordinary times with the Fed buying $120 billion a month in Treasurys and mortgage-backed securities and flooding the economy with $5 trillion of liquidity. Deposits at banks are $17 trillion, up $3.7 trillion in 18 months. What are people to do with all that money? Some are spending, some are investing, many are just setting money aside.
There is clearly a disconnect in the financial markets. The falling yield on the 10-year Treasury would normally be a sign that investors expect a slowing economy with less demand for credit. But the Treasury is borrowing like never before and the economy is booming with growth perhaps at a pace rarely seen before.
The Dow, S&P 500 and Nasdaq are near their highs so some investors must not see a slowing economy. If they did then expectations for earnings growth would be lowered and that would be a negative for stocks, which are ultimately a bet on future earnings. Stock investors are ignoring the bond crowd if the latter is in fact cooling on the economic outlook. Maybe they aren’t.
Falling and stubbornly low rates might mean that investors see inflation as a non-event for years to come, which would be good news for stocks and bonds. If that is true it’s because investors are ignoring current inflation and liquidity data and trillions more in deficit spending to come.
What risks to the economy beyond inflation could investors see? Growth could slow from its heady pace due to a surge in COVID cases or who knows what else? Possible, of course, but I don’t expect that to a significant degree. There is also the risk of big tax hikes.
If this bull market cart is to be upset, even temporarily, it will be because inflation will stay high and as a consequence interest rates will also be higher. But it will take time for that to become evident.
I believe the huge monetary and fiscal tailwinds will carry the day for stock investors, provided the rise we’re seeing in inflation will in fact be transitory. Is inflation transitory? The Fed and the bond market think so. Let’s hope they are right.
David Vomund is an Incline Village-based Independent Investment Adviser. Information is found at http://www.VomundInvestments.com or by calling 775-832-8555. Clients hold the positions mentioned in this article. Past performance does not guarantee future results. Consult your financial advisor before purchasing any security.
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