Advisors.LeutholdGroup

These are just some random remarks about a few unrelated concepts of interest.

As illustrated by the accompanying chart, every post-WWII bull market has experienced at least one separate correction (defined as a market decline of at least 10% but less than 20%) before ending in a bear market (a drop of 20% or more). But today, the S&P 500 is knocking on the door of a bear-market collapse without having yet experienced an isolated correction.

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By the end of last year, the annual Consumer Price Inflation (CPI) rate soared to 7% and rose above 8.5% by March. So how did bond yields react to the biggest inflation surge in over 40 years? Since April 2021, the inflation rate has been greater than 4% and ended the year at 7%, yet the 10-year U.S. Treasury yield was only 1.5% as of December and is currently just 2.9%—the lower end of U.S. history. Indeed, looking back to 1872, today’s inflation rate is higher than 88% of the time, whereas the 10-year Treasury yield is still lower than about 80% of the time!

Could the recent surge in bond yields finally be reaching a standstill? Who knows for sure, but there are some encouraging signs signaling at least a temporary intermission?

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Consumers have enjoyed some positives in the last year, including a strong jobs market and rising wages. Overall, however, they have faced an increasing array of challenges that have dampened spirits. Fiscal stimulus has run dry, budgets have been pressured by a price upswing in nearly everything, interest rates are much higher, and despite elevated wages, the real wage rate has been declining. In addition, the headlines have turned increasingly dark: a protracted war in Ukraine, yet another COVID-variant upwelling, a potential policy mistake by the Federal Reserve, a stock market collapse, and widespread talk of an imminent recession.

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Lately, “TECH” has truly become a “Four Letter Word.” After a prolonged leadership run that began long before the pandemic, and became dominant in early 2020, technology stocks have entered a bear market. The S&P 500 Technology index and Nasdaq 100 (the QQQ) are now off from record highs by over -20% and -22%, respectively. This has left many wondering whether the financial markets are again headed for a replay of the 2000 dot-com collapse. 

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As the following chart pictorial illustrates, several key ingredients that underlie pricing pressures are losing their inflationary force. These include the systemic impact of rising inflation expectations, the coincident contribution of higher commodity prices, and the leading influence of economic policies. There is also notable progress among several supply-chain problems, including a surge in the U.S. labor supply, improvement in international freight rates, a rollover in backlog orders, and evidence that companies are finally rebuilding inventories.

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With so much worry swirling around contemporary Federal Reserve actions and imminent recession risk, history provides a good reminder that Fed-tightening cycles have almost always taken considerable time before bringing about a recession.

For stock investors, the most important issue surrounding the inflation environment is not how high it is nor how long it may stay above the Fed’s target rate. Rather, it is whether inflation is nearing a recovery peak: Even if it remains elevated for some time, if inflation is nearing a top, the stock market has historically produced satisfying results. That is, stocks have done well in periods following a peak in the inflation rate. Consequently, today, with inflation this extreme (and probably close to topping out), it’s time to buy!

A replay of a Zoom Call with Chief Investment Officer, Doug Ramsey where he shared his thoughts and observations on today's market and what he sees looking ahead. The slides are available through the PDF Download.

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We worry so much about the Federal Reserve. How far are they behind the curve? When will they start taking away the punch bowl? Is the fed funds rate alarmingly below the Taylor Rule? How fast will the Fed push interest rates higher? Will they opt for a 50 basis-pointer? Maybe multiple 50s? Could there be an intra-meeting hike? What is the terminal yield target? QT could be a killer! Do those dot-plots suggest a curve inversion? Oh my, even the Doves are Hawkish!

VIX® is the popular name for the Chicago Board Options Exchange CBOE Volatility Index®. It measures the stock market’s expectation of future volatility based on S&P 500 index options. When investors expect more instability, they perceive greater risk, and for that reason, the VIX is often referred to as the market’s “fear gauge.”

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Theoretically, there is a supply and a demand, and they are brought together only by price. Obviously, both are important because when they get drastically out of whack, inflation rises or falls—or deflation develops. For this reason, it’s useful to separately monitor their developments in real-time. To fully appreciate the underlying source of inflation, one needs to acknowledge the status of “both” supply and demand. It could be too much demand or too little supply. Often, it’s a bit of both.