Inflation challenges stock market fundamentals as investors prepare for Fed meeting
Inflation is confusing some investors, even though it turns out to be a transitory feature of the pandemic.
“Absolutely, inflation is a risk for the markets,” Eric Schoenstein, chief investment officer at Jensen Investment Management, said in a telephone interview. “It’s really a risk for the companies that are in the market.”
According to Schoenstein, wage pressures and supply chain disruptions linked to COVID-19 are adding costs to businesses, some of which are having “hard times” by passing on all the inflation they see. “It actually gives people a break when they think about where to go in the markets,” he said.
The consumer price index climbed 0.3% last month, the government said on Tuesday. Economists polled by the Wall Street Journal had estimated an increase of 0.4%.
The US consumer price index rose 5.3% in August, from 5.4% in July, according to the Labor Department.
Investors fear that inflationary pressures will spill over into corporate earnings, possibly as early as the third quarter, calling into question the foundations for the “phenomenal” performance of stock markets during the pandemic, Schoenstein explained. He finds that Jensen’s clients are looking to look to higher quality stocks because they want exposure to “resilient” companies that can manage the risks of a rising cost environment.
“Sectors and stocks with a proven track record of sustaining profit margins have started to outperform and this trend may continue in the near term,” wrote Daniel Grosvenor, director of equity strategy at Oxford Economics, in a report by September 16. Investors may continue to favor companies with “high pricing power and the capacity to grow and maintain productivity gains.”
Meanwhile, the Federal Reserve may soon pull the “punch bowl” out of the market, Schoenstein said, referring to the quantitative easing program the Fed launched last year as part of its mid-market bailout package. the COVID-19 crisis. Investors will look forward to the Fed’s two-day policy meeting next week for clues to its accommodative stance, with many expecting the central bank to start cutting back on its monthly asset purchases before the end of the year.
Although the inflation test to reduce its bond purchases has been met, the Fed has sought to move towards “maximum employment,” according to remarks by President Jerome Powell at the end of last month at the Jackson Economic Symposium. Hole, Wyoming, which has stood practically amid COVID concerns.
Inflation moves through the economy like “a pig through a python,” Jay Jacobs, head of research and strategy at ETF provider Global X, told MarketWatch. whack-a-mole ‘right now. “
See: The surge in consumer prices in the United States slows in August, according to the CPI. Has inflation peaked?
While inflation data released on September 14 by the U.S. government showed the cost of living increased at a slower rate than expected in August, the consumer price index was still high at 5.3 % year-on-year. In the past month, prices have fallen for airline tickets, hotels, car insurance and used vehicles, but the cost of food has risen sharply while prices have also increased for new cars, gasoline, furnishings and rents.
The rent component worries Jacobs. “It’s inflationary pressure that’s only just beginning,” he said, and while tenants can choose to forgo vacations or dine out, everyone needs shelter.
“The Fed should adjust the monetary policy that is currently skewing the economy and in particular the purchase of $ 40 billion per month in agency mortgages,” said Rick Rieder, BlackRock investment manager for income securities Global fixed and head of the company’s global allocation investment team. in an e-mailed statement on September 14. The buying of bonds continues “to overheat the housing market plagued by low stocks, soaring prices and reduced affordability.”
The Fed has carefully communicated to the market that it plans to cut its $ 120 billion in monthly asset purchases, including $ 80 billion in Treasuries and $ 40 billion in mortgage-backed securities. While investors will focus on the Fed for any hints on the reduction, central bankers’ forecasts emerging from the policy meeting will also be considered.
According to Jim Vogel, executive vice president of FHN Financial, investors will be on the lookout for any expected decline in real GDP growth due to concerns over rising prices. They will also look for the range and median of Fed officials’ forecast for “core PCE” next year, he said by phone, referring to the personal consumption expenditure price index. Vogel added that investors will also be looking at the Fed’s dot plot showing its officials’ forecasts of interest rate hikes.
As for the cut, any Fed announcement this year on slowing its asset purchases could help “clear the air” for investors, Vogel said, as the uncertainty of its start “would no longer be suspended. to different ideas and strategies “.
Meanwhile, some investors are worried about the potential for a Fed policy error amid rising inflation in the economic recovery, including the possibility of being too dovish for too long.
Investors have “the knowledge and fear from previous decades that the spark of inflation, once it turns into a fire, is really hard to put out,” said Vogel. Even though people may agree that inflation is transitory, as it is linked to the economic recovery from the pandemic, “they are still afraid of it.”
But Vogel isn’t too scared of inflation at this point. That’s because he hasn’t seen any signs so far that it’s “contagious,” or with an area of rising prices spreading inflation across the structure.
Year-over-year inflation will likely stay around 5% in the coming months before returning to pre-COVID levels of around 2%, as the so-called “base effects” linked to the pandemic is dissipating, Michael Pond, head of global inflation research at Barclays, told MarketWatch. He said the bond market is valued for year-over-year inflation to fall to 2.6% by the end of 2022.
“We recognize, however, that the risks over the next few months and quarters are likely on the rise,” Pond said. “The question arises as to how long these supply side bottlenecks will keep inflation high. “
The shortage of semiconductor chips in the automotive industry that led to soaring used car prices was just an issue the market saw as needing to be addressed, according to Pond. Raw material shortages continue, while companies may also face higher labor and shipping costs, according to an economic report released Friday by BofA Global Research.
“Supply chain challenges have only gotten worse lately,” BofA economists wrote.
Pressure on wages will also be important to watch as it could turn transient inflation into a structural concern, according to Pond.
“There are definitely higher salaries,” Vogel said. “But we don’t necessarily see higher wages in one group leading to higher prices in the rest of the economy, just yet.”
While some investors feel relieved by lower-than-expected inflation in August, the latest CPI impression hasn’t exactly allayed the concerns of Tony Roth, CIO at Wilmington Trust.
“Once the delta variant calms down and the recovery gains strength, we are concerned that inflation will come back even stronger than it was before the delta variant,” Roth said at a telephone interview. That’s because the pressures on the supply chain and in the labor market are mounting, he said, and consumer demand could strengthen as a result of the delta wave.
The US stock market was choppy in September, with signs of bearish momentum emerging after hitting a series of record highs this year.
The three main indices, the Dow Jones Industrial Average DJIA,
S&P 500 SPX,
and Nasdaq Composite COMP,
closed lower on Friday amid weak consumer sentiment, posting losses for the week. The Dow Jones has now fallen for three straight weeks, the longest weekly losing streak since September 2020.
The US economic calendar for the coming week includes housing starts, home sales, first jobless claims and data on manufacturing and services. But the most important element falls on Wednesday afternoon, when the Fed releases its Federal Open Market Committee statement and President Powell holds a press conference.