@theMarket: Stocks Battered by 1-2 Punch of Inflation, Higher Energy Costs

The Fed is on hold. Iran is not. Oil regains highs, despite Trump's efforts. Markets test a critical support level. Read no further, unless you want the gory details.

 

My first downside target has been met. The S&P 500 Index has fallen to the 200-Day Moving Average (DMA). That is the level that has historically separated the bulls from the bears. Below it, we have problems. Above it, the sky's the limit. That's simple enough, I guess, but the question on your mind right now is what happens next?

 

That 200 DMA, while important, is not an exact science. More often than not, the market overshoots that line in the sand just to freak out the most investors. I am thinking that overall, we should pull back further, maybe closer to 10 percent over time rather than the 15 percent some bears are predicting.

 

As for when this conflict in the Middle East will end, I don't know. You could ask the president, since he has said that he will "have a feeling" when enough is enough and the war is over. When that occurs, the markets will rally. The bounce should be breathtaking, and if you are not invested, you will miss it. There won't be an opportunity to chase.

 

There is one caveat to that advice. If you are lucky enough to know someone in the inner circle or have paid (donated) enough to the right people, then you will be given advanced notice. Giving friends, relatives, and donors advance notice has become a standard practice within government over the last year.

 

I am not the only one with a foggy crystal ball. The Federal Reserve Bank has no idea what is in store for the economy or the financial markets either. They met this week but decided to do nothing but wring their hands. Chairman Jerome Powell (the Fed's lame-duck who isn't) said they would be watching and waiting for the next six weeks (the next FOMC meeting) until they see how this Middle Eastern conflict plays out. He intimated that the longer the war lasts, the more difficult the Fed's job becomes.

 

Higher-for-longer energy prices mean inflation strengthens as growth slows. The Fed has raised its inflation forecast for the year, but FOMC members still expect the economy to grow. Unemployment appears balanced. Since the immigration crackdown, job openings and job seekers are nearly zero, creating an unusual equilibrium.

 

On the inflation front, the Producer Price Index for February rose over twice as fast as expected, climbing 0.7 percent from January's 0.6 percent. This increase more than doubled most economists' forecasts, though not mine. About 30 percent of the gain was from higher diesel fuel prices. Read my column on diesel fuel this week. I expected this increase and anticipate that the next inflation numbers will be even higher.

 

The era of markets anticipating future rate cuts has ended, replaced by, at best, no change, and at worst, rate hikes if inflation accelerates. That shifts the narrative and market dynamics.

 

Precious metals and metals overall are a case in point. The sector has responded to the fear of higher interest rates by dropping precipitously. The hot money has bailed out and moved into speculating on energy and the U.S. dollar. I see further downside in all metals and a period of consolidation as interest rates decimate the asset class.

 

A series of measures — including using Strategic Petroleum Reserves, lifting Russian oil sanctions, and removing U.S. regulatory restrictions (The Jones Act) — to boost global liquidity appear to have slowed energy price gains.

 

Given that I am not a war correspondent, nor do I pretend to be, unlike so many talking heads in the financial media, all I can say about the conflict in the Middle East is that it has spread. Significant strikes on gas fields and oil refineries are investors' worst nightmares. That kind of escalation is a significant threat to global growth.

 

At the same time, the narrative has changed. The administration's assurances that we will kick Iran's butt, oil prices will fall, and on to the next victory are beginning to fall flat. Missile and drone strikes have taken precedence over words and presidential posts, with every new explosion sending oil prices higher and stocks lower.

 

Some traders are keying off the price of West Texas Intermediate oil (WTI) to signal which way stocks will go. Above WTI $97.37 a barrel, stocks fall further, while below WTI $92.62 markets rally. That is a wide range.  In between, equity markets are in a chop fest. The VIX (volatility index) indicates the same thing. It is at 25 right now. Below 19, the VIX signals all clear, but above 30, look out below! In between, we have the same chop fest as the oil price indicates. I warned readers to expect volatility, and we have it in spades. It will get worse before it gets better.