Weekly Market Update September 15, 2023
Dow Jones Industrial 34,618.24 +.12%, S&P 500 4,450.32 -.16%,
Nasdaq Composite 13,708.33 -.39%, US Two Year 5.037%, Crude Oil $91.15
On Thursday the Department of Labor’s Bureau of Labor Statistics released August’s inflation figures. They disappointed the inflation hawks. In August alone prices jumped 0.6%, and the annual rate rose from 3.2% in July to 3.7% in August. Why does inflation stay elevated despite the central bank aggressively increasing interest rates? Is the Federal Reserve’s 2% inflation rate realistic, or even desirable? Can this year’s rally in stocks continue despite inflation that remains stubbornly high?
Obama auto bailout chief Steve Rattner answered the first question, writing in the New York Times that the “original sin” was the $1.9 trillion American Rescue Plan of March 2021. Almost completely unfunded, it attempted to counter the effects of the pandemic by focusing on demand side stimulus instead of investment. That led to the supply shortages that continued throughout 2022 and drove up the price of things as diverse as commodities such as corn to consumer goods like cars.
Speaking of autos, the supply shortage has mostly abated, and the car makers are making record profits. Yet 13,000 members of the United Auto Workers (UAW) are now picketing assembly plants at Ford, GM, and Chrysler, while the union leadership is threatening to put the remaining 137,000 members on strike. Are the car company leaders not sharing the wealth with their workers? Or is management hoarding assets to cope with the government forcing them into electric vehicles? Very possibly both. But there is something more insidious here: Census Bureau data released on Tuesday shows that median real, or inflation-adjusted, household income fell from $76,330 in 2021 to $74,580 in 2022, a decline of 2.3%. That is the biggest drop in real household income since 2010, when it fell 2.6%. Inflation is indeed “the hidden tax.” The chart below shows inflation-adjusted income peaking at over $78,000 just before the pandemic. It has yet to recover, and instead continues to decline.
Perhaps it is time to abandon the 2% target, and we should get used to higher inflation. The 1.5% average inflation rate obtained from the financial crisis through 2020 during a period of near-zero interest rates is an outlier. On the other hand, the 6% average since 2001 began for reasons mentioned earlier is historically very high. Since 1929 the average rate of inflation has been 3.1%. Business can and has done well under that scenario, and the present economy remains strong. Market participants know this and have driven stocks higher. Corporate earnings have been good despite the higher interest rates and should continue to do so, even with the regulatory headwinds that governments have been piling on. So there does not seem to be any reason for the Fed to risk causing a recession through further interest rate hikes.
And the market does not appear to be expecting a recession, otherwise, the lagging consumer staples, healthcare and utilities sectors, the safe havens during recessions, would be doing better. So, continue to emphasize more “growthy” industries like information technology hardware, select retailers, and industrial manufacturers. Despite the mini-banking crisis of a few months ago, continued high-interest rates should allow well-capitalized banks to increase earnings. Meanwhile, energy which lagged in 2022 might be returning to its winning form of 2021, with OPEC+ producers like Saudi Arabia cutting production to maintain oil prices. And with the two-year rates staying around five percent maintain a meaningful presence in short to intermediate maturity bonds.
Have a Great Week,