Market Pulse: No victory laps
Fed Chairman Jay Powell said there would be a few bumps on the road to his goal of 2% inflation. Hello bump No. 1, January’s Consumer Price Index that was higher than expected. Bump No. 2 came when the Producer Price Index was also high and bump No. 3 arrived last week with news that the PCE, the Fed’s preferred inflation gauge, rose 0.6% in one month and 5.4% year over year.
We can’t help but notice the rising prices of just about everything. But rising prices are the symptoms of inflation, not its cause any more than a sneeze is a cold. Inflation is a monetary phenomenon. It can be addressed by slowing demand or by increasing the supply of goods and services. The Fed has taken the former approach by raising rates and putting a lid on the M2 money supply
The bottom line: CPI inflation will edge lower in fits and starts, but not reach the Fed’s 2% goal unless we have a recession. That is still possible this year and into 2024 and with it unemployment well above 4%, a tragedy for those who lose jobs and income.
Inflation impacts asset valuations because prices reflect the present value of future earnings from stocks and interest income from bonds. While I don’t foresee the CPI falling to the Fed’s target of 2% and staying there, any progress toward that goal can power a bull market, especially if there is some encouragement from the Fed that rates will soon level off and begin to decline. So far they have given none.
Rising interest rates loom large as the major negative for stocks and would-be borrowers and home buyers. The cost of capital will rise further. We will have to live with rising rates for a while. Savers and income investors will benefit.
The stock market has a few things in its favor. Perhaps the most obvious is that there are trillions of dollars on the sidelines. Most of those that want to sell have already done so. Investors are too bearish, just as they were in October.
Overall, an environment in which interest rates are rising, GDP growth is slowing and profits are falling is a difficult one for investors. Until investors can foresee a change coming in one or more of those negatives they should have modest expectations. Bonds are becoming more attractive and now more than ever dividends will be important.
David Vomund is an Incline Village-based Independent Investment Advisor. 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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