@theMarket: Inflation Fears Weigh on Investors
Most stocks took it on the chin earlier this week. Technology shares lead the rout, but it didn't take long before just about everything else followed tech lower. By the end of the week, it was as if nothing had happened. That's called "chop." Get used to it.
The Consumer Price Index (CPI), which investors use to gauge future inflation, took the lion's share of the blame for the downdraft in equities. Economists had warned that we should expect a higher monthly reading (0.2 percent) for April, but the data came in at 0.8 percent. That computes to a 4.2 percent price gain year-over-year and was almost triple the rate that anyone had expected.
The market reaction was swift. Interest rates spiked higher along with the dollar, while equities dropped. The carnage continued for three straight days, taking the S&P 500 Index down 4.2 percent from its high of 4,238. Traders waited until the index hit its 50-day moving average at 4,056 before buying the dip. A relief rally on Thursday and Friday repaired about half the damage.
The CPI shock was not a one-off, statistical aberration, however. April's Producer Price Index (PPI) was also released this week, showing a jump of 6.2 percent versus a year ago. That was the largest increase since the Bureau of Labor Statistics started tracking the data in 2010. The monthly increase of 0.6 percent was twice the expected gain.
Economists were quick to explain that the numbers were not as bad as they appeared, since a year ago the economy was in a free fall. Prices were at their lows during the pandemic, so comparisons were bound to be stronger than expected and will continue to be so for the next several months. They have a point and investors seemingly calmed down a bit.
Over the past few months, the fear of uncontrolled future inflation, fueled by governmental stimulus and a growing economy, has been a primary concern among traders. There is presently a tug of war between the Fed, which believes that this spike in inflation will be transitory at best, and the inflation bears who argue that there is no such thing as transitory.
This week, the market algo computers sold stocks on the CPI news and it took cooler heads a day or so to prevail largely on the news that the Center for Disease Control (CDC) announced they were lifting inside mask restrictions for those who have been vaccinated. That revived the bulls, who piled into the re-opening trade once again
I had written last week that the best investors could expect from the markets over the next few weeks would be marching in place. I warned that there was also a real possibility we could experience a 5-10 percent decline in the S&P 500 Index and worse in the NASDAQ. Well, this week we lost almost 5 percent in the benchmark S&P 500 and closer to 10 percent in a lot of technology stocks. Some of those high-flying, next generation stocks with no earnings or sales have experienced a 30-50 percent pull back in the last few weeks. Some may be tempted to get back into these names but now is not the time, in my opinion. Better to focus on value and cyclical stocks that have real earnings, dividends and a strong balance sheet.
It is after all, the month of May, and so far it has lived up to the admonition to "sell in May." It is quite possible that we will see the same kind of chop in the markets for a while. If so, I advise readers to sit on your hands, do nothing and ignore the noise. Otherwise, it could be you who ends up on the chopping block.
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The Retired Investor: A Labor Shortage Solution
The hiring boom that was expected in April 2021 fizzled. Last Friday's nonfarm payrolls report came in at 266,000 jobs gained compared to over a million expected. It was the biggest miss in decades.
Politicians and many corporations were quick to provide a ready scapegoat for that failure. They blamed it on the weekly payments of $300 in federal unemployment aid through September 2021, on top of the regular unemployment benefits paid out by the states. In short, the fault apparently lies with the Biden administration's stimulus package. If the president and the Democrats had not provided these overly generous benefits, more workers would be thrust back into the work force in order to eat and pay their bills. Hogwash!
Many of these complaints are coming from service providers in the restaurant and retail trade where the median wage is around $11 a hour versus more than $20 a hour in other occupations. Non-partisan economists can find no evidence to support these wild claims, but there are two factors that could explain the lack of available workers.
Fear of contracting the coronavirus is one reason. Many millions of Americans avoided hunting for jobs in April because they were afraid they might be infected with the coronavirus. In the restaurant and retail business sectors (where the accusations are loudest), there is a much higher risk that can occur. Disruptions in schooling and child care also contributed to the anemic job hires, since 2 million or more women specifically were prevented from looking for work because of caring for children at home.
A third explanation involves economic theory. The economy has suffered, and continues to suffer, from a severe shock. As in all such shocks, growth and hiring are not likely to evolve smoothly, like clockwork. The economic data will be choppy, reflecting the fits and starts of an enormous economy coming back to some semblance of normalcy.
Surging consumer confidence has fueled demand as Americans want to buy, eat, travel, and shop. Many companies have been caught flat-footed by this sudden explosion in new business. They somehow expected that workers would magically appear just because they decide to reopen their business after months of lockdowns and hesitation and fear. But business owners have been spoiled by decades of cheap available labor, especially in the U.S. services sector, which now represents about 70 percent of the American workforce.
In times like these it is easy to fall back on all the old myths about the American workforce and their failings. I am hearing comments like "Why work when you can get more staying home?" or "stimulus and unemployment benefits are killing the workforce," and of course the old tried and true racially motivated "people just do not want to work."
Let me put an end to this crap. The U.S. is the most overworked, developed nation in the world. Today, 70 percent of American children live in households where all adults are employed and 75 percent of those women are working full time. In the U.S. 85.8 percent of males and 66.5 percent of females work more than 40 hours a week. And women make 87 cents for every dollar a man makes. Productivity per American worker has increased 400 percent since 1950. All the net gains in April's job growth went to men. Women, as a group, lost jobs.
My solution to the nation's dilemma of finding more workers is not to reduce unemployment benefits. That would simply lock our antiquated attitude toward labor. It is obvious to me that American companies, especially in the service sectors, need to pay higher wages to attract the workers they need. If they cannot do that and still make a profit, they should not be in business at all.
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@theMarket: Stocks Make New Highs
It has been the best quarterly earnings season in a long time. More than 87 percent of companies that have reported thus far have beat earnings estimates. That is a record and investors celebrated.
Last week, I mentioned that this earnings season has been a classic example of a sell-on-the-news. It has been especially so for companies in the technology sector, but not so much for investments in other areas. What, you might ask, does this say about the overall markets?
The most bullish interpretation is that we will continue to move higher making new highs after new highs. The Dow Jones Industrial Average made yet another new high yesterday, as did the S&P 500 Index. The NASDAQ is still off by 4 percent from its highs and the small cap Russell 2000 Index is off by 6 percent.
However, for the year thus far all the indexes have positive gains. The S&P at 12 percent is about ties with the Dow, while the small cap Russell and the technology-heavy NASDAQ are lagging. I have been warning investors since the beginning of the year that technology, especially the stay-at-home stocks, would be underperformers.
As we enter the second week of May, with the markets at, or close to, all-time highs, investors need to ask how much of the present macroeconomic data is already reflected in the price levels of the stock market. We know that coronavirus cases are falling and will probably fall further. We also know that this quarter and next will see economic growth spurt higher, while unemployment drops. I feel it would be safe to assume that the market has already discounted some of those future expectations.
However, don't think that Wall Street economists get it right all the time. Take April's unemployment report. Forecasts were for the economy to gain one million jobs last month. Instead, only 266,000 jobs were added. That was the largest miss since 1998. It immediately cast doubt on the timetable of economic recovery.
Expectations are that the economy is going to roar back, and with it corporate hiring plans. Friday's report, if anything, might reduce some of the more bullish enthusiasm of some financial analysts. That is a good thing, in my opinion.
The prospect for higher inflation is still a question mark, as is the future course of interest rates. Those two variables are interconnected and will occupy our attention for the foreseeable future. Sectors that benefit from inflation, like commodities, are outperforming. I expect they will continue to do so as the economy recovers. So-called “value' areas like industrials, transportation, and materials, as well as financials, have also done well and should also continue to gain, even if interest rates move higher.
The sectors that are hurt by inflation or higher interest rates, however, should underperform. The result could be a bifurcated market, something I believe we are witnessing at times right now. I am expecting markets to climb a little higher. My target for the S&P 500 Index is between 4,220 and 4,270. At this rate, we should hit my target by next week.
At that point, those invested in the three main indexes, you could see markets simply pause in the weeks ahead and trade in a range. That would be my most bullish scenario. The bearish story would be a classic May sell-off of possibly 5-10 percent. If that were to occur, the good news would be that the stronger sectors might mitigate some of the downside potential in the weaker areas.
I will be watching the transportation and energy sectors for clues. Those two areas should continue to gain if investors believe the re-opening trade is still intact. Weakness might indicate economic prospects have been fully discounted, in which case, the markets should follow their lead downward. Stay tuned and keep reading.
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The Retired Investor: Are Inflation Fears Real or Imagined?
If you have been grocery shopping lately, there is no question that prices and inflation are going higher. The same can be said for the price of a gallon of gas. But is it a transitory event, or are we at the beginning of an inflationary era not seen in decades?
Clearly, commodity prices, which are usually the harbinger of future inflation are soaring. Copper, oil, sugar, corn, steel, aluminum and lumber as well as many other food and material prices are hitting multi-year highs. But it is not just commodities that are seeing a price surge. Shipping costs are also skyrocketing. And there are parts shortages that are leading to higher prices, plus a global semiconductor shortage that is sending microchip prices climbing.
Against this backdrop, the U.S. economy is exploding higher with the growth rate. This quarter and next combined are expected to exceed 10 percent. The nation is reopening and with it the demand (and prices) for everything from airline tickets to rental vacation cottages. The back-to-the-office crowd, as an example, has retailers trying to keep up with the sudden heightened demand for everything from dress trousers to make-up.
And while all this activity is gathering momentum, the U.S. government is feeding more fuel to the fire. Both government spending and monetary stimulus are at historical levels. We would need to go back to the Roosevelt Era to find a similar period of spending in our history. But this governmental expansion has even dwarfed FDR's efforts.
Thanks to the pandemic, there have also been a growing number of supply shortages and logistical logjams worldwide. From diapers to toothpaste, consumer-related poduct scarcities are also contributing to rising prices. Time and again, during quarterly earnings calls over the last two weeks, corporate executives have complained about the mounting costs of almost every input to their businesses. Where they can, those costs will be passed on to the consumer through higher prices. The fear of inflation is no longer theoretical.
Up until now, if you listen to the Fed, the uptick in the rate of inflation is going according to plan. The need to expand GDP considerably will by necessity, mean that inflation will move higher. They expect inflation to run "hot," or at least hotter than would normally be the case.
Both the U.S. Treasury Secretary Janet Yellen, and Fed Chairman Jerome Powell, believe that a higher inflation rate will be necessary in order to get employment back to 2019 levels. Chairman Powell has said on many occasions that if inflation runs a little higher than their historical comfort level of around 2 percent that would be better than okay.
A higher rate of economic growth, they believe, will also address some of the potential scarring of the economy wrought by the pandemic. "Scarring" refers to the potential for permanent damage that may have occurred to the economy and the work force during the last year or so.
What has many investors concerned is that once the inflation genii is out of the bottle, it won't be that easy to put it back in again. Will a 2.5 percent inflation rate, for example, be a transitory event, or the harbinger of something more? And if so, how much more?
Will the Fed be forced to hike interest rates, if inflation runs amuck? Will they take away the monetary punch bowel and with it the stock market and the economy?
One thing is clear. Until we know the truth, investors will be sleeping with one eye open. In recent days, several Fed members, in speeches around the country, have mentioned the "potential" for tapering in the near future — something opposite of the Fed's stated policy position. In addition, this week, Secretary Yellen also mentioned a possible need for higher rates ahead. That riled the markets, and she later walked back that statement. Investors dismissed it as a "slip." It is hard to believe that a veteran like Yellen would say anything in any circumstance.
My own thinking is that what we are hearing are a series of trial balloons. It is usually the method by which the Fed and other official entities gauge and test the reaction to future policy changes. Could it be that, despite the central bank's belief that their lower-or-longer stance is the right approach, there may be the need to adjust if prices continue to ratchet too much higher? Afterall, when you allow things to heat up there is always the chance of being burned.
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@theMarket: Fed Signals Equities 'All Clear' But Markets Don't Care
Investors were bolstered by the Fed's message this week. Low interest rates and monetary stimulus will remain pillars of the nation's economic recovery for as long as it takes. Investors were comforted, but not enough to materially move stocks higher.
It was indicative that despite bullish news on a variety of fronts, investors ignored the good and focused on the negatives. First quarter earnings results, for example, have been better than good, but not enough to satisfy the bulls. Apple smashed earnings estimates, sending its stock price higher in after-hours trade, but the next day it finished down. It has been the same story for many of the market's winners. What this tells me is that a lot of the good news in the market and in individual stocks may already be priced in.
Turning to the pandemic, the words we have all been waiting for "we have turned the corner," were spoken this week by President Biden in his first address to Congress. That should have sent markets shooting up, and it did for a moment or two. But investors choose instead to fret about the skyrocketing coronavirus cases in Brazil and India and what damage that might do to global trade.
On the economic front, this week's unemployment claims reached another pandemic-era low (553,000 claims), while first quarter GDP came in at a robust 6.4 percent. Many economists believe the numbers are going to get even better from here. The data was greeted with a mild yawn and little response other than to push the yield on the U.S. Ten-Year Treasury bond higher.
In the background, investors are keeping an eye on what most on Wall Street are calling President Biden's progressive agenda. The price tag on all this intended government spending (if passed) now totals in excess of $6 trillion. In order to pay for it, the president is seeking to raise the corporate tax rate, plus increase the income tax rate on the top 1 percent of taxpayers. In addition, the capital gains tax for millionaires would practically double in order to equalize the taxes on investment income and the tax rate for ordinary income. In another blow to the wealthy, the president would get rid of the so-called step-up in basis at death for any gains of more than $1 million.
Higher taxes are almost never good news for financial markets and might provide some of the concern that seems to have soured investors' moods. The fact that most Americans would not be hurt by Biden's tax increases may be tempering the potential damage of these tax initiatives as there is the plan itself.
If passed, investors know there could be an awful lot of fiscal stimulus on the way. Some economists are now comparing President Biden's plan to FDR's social programs during the Depression. If that were the case, a look at history would indicate a great leap forward in economic growth.
The three major indexes responded to all this good news, making new highs as the week progressed, but the bulls just couldn't keep up the pace. There was an increasing churn to the markets with individual stocks getting clobbered, despite favorable news across the board.
This is usually a precursor to some further consolidation that may be in store for us. An increasing number of Wall Street strategists have been sounding the alarm, predicting a 5-10 percent pullback at any time. Of course, several of them have been saying that for weeks or months and it has not occurred.
My own guess is that we spend the next few days digesting more earnings results, and then take a run at 4,240-4,280 level on the S&P 500 Index. At that point, let's see where we are. If there isn't still enough steam to move higher, than the ‘sell in May and go away' advice we hear every year might be in the cards. And May is only a day away.
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