Just prior to the start of yesterday’s domestic trading, Consumer Price Index (CPI) figures were released. The CPI inflation measure showed a year-over-year expansion of 8.2%, marking a slight easing from the prior-month reading, and the core CPI rate, stripped of volatile food and energy prices, came in at 6.6%, up from 6.3% previously. Initially, stocks dropped sharply (2%-3%) on the news of still-elevated inflation. As the day progressed, however, stocks staged a remarkable rebound, generally posting advances in the 2%-3% span by the close. The DJIA surged over 800 points (2.8%), the S&P 500 jumped 93 points (2.6%), and the NASDAQ gained 232 points (2.2%).
It might just be that investors are thinking inflation is close to reaching a peak in the current cycle, and are buying on any market weakness in anticipation of an eventual “Fed pivot.” That “Fed pivot” or the Federal Reserve altering its monetary policy from raising to cutting short-term interest rates, however, does not appear imminent.
In recent days, Fed officials have reiterated their view that they need to stay aggressive in combating high inflation. The idea is to avoid similar missteps on the part of the central bank during the 1970s, when it pulled back on rate hikes too soon, resulting in a stubborn resurgence of consumer prices. Indications are that another hike of 0.75 of a percentage point, the fourth in a row, will come out of the Fed’s Federal Open Market Committee (FOMC) early November meeting. That would bring the cost of commercial banks’ borrowing Federal Funds to a range of 3.75%-4.00%. Fed Chairman Jerome Powell has said that an ultimate Fed Funds level above 4.5% may be appropriate.
The Fed is now weighing incoming economic data in an effort to gauge whether it’s doing too much or too little to contain inflation. Recently released CPI, PPI (Producer Price Index), and PCE (Personal Consumption Expenditures) figures showed goods and services price momentum remains strong, supporting the case for still-higher rates. Some economists and traders, however, argue that these measures are lagging indicators, and that the Fed should be more forward-looking in its strategy. They mainly point to declining house prices and slowing apartment rent growth, not yet included in the data, as evidence that underlying inflation is moving meaningfully lower. Home prices and rents account for a large proportion of the indexes’ compositions. Additionally, they note that wages, though rising, are not keeping pace with inflation. Many economists are concerned that the Fed will tip the economy into a worse recession than is necessary to contain inflation.
Stock market volatility has perked up this week, with the Chicago Board of Options Exchange volatility index, commonly known as the VIX, hitting a peak of about 34 late Tuesday. From the start of the week through Wednesday’s close, the Dow Jones Industrial Average (DJIA) was trending slightly positive, while the Standard & Poor’s 500 (S&P 500) and the NASDAQ seemed headed toward losses in the 1%-2% range for the five-trading-day period.
Internationally, turmoil in the United Kingdom financial markets added to U.S. share-price volatility, with the Truss government reversing a portion of its planned easing of fiscal policy.
This morning’s release of benign September U.S. retail sales underpinned prospects for a mixed opening. Consumer sentiment figures are due out shortly. The start of another earnings season will affect share prices in the near term.
In the meantime, stock trading will probably stay quite volatile through the current earnings season. A sustained market recovery isn’t likely to come until it’s clear that the Fed has taken a pause and is set to begin cutting rates. Such a scenario doesn’t seem in the cards, at least not before 2023. We recommend investors remain cautious, maintaining holdings in companies with solid operating track records. – David M. Reimer
At the time of this article’s writing, the author did not have positions in any of the companies mentioned.
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