by Jason Bodner
June 28, 2022
I don’t know about you, but I feel like I’m glued to the news recently. With all the stories swirling around about wars, pandemics, and political scandals, it’s enough to make your head spin. And as we watch market prices dip and pop, it’s often hard to reconcile the news against the prices of our investments.
When it comes to useful news, weather tops the list, as 70% of surveyed Americans deem it their top concern for everyday life. But I beg to differ. I see only one thing we need to focus on. Today, I’m going to show you the one simple piece of information all investors must know, whether they realize it or not.
On June 15, Fed Chair Jerome Powell announced that the Fed would raise the Fed funds target rate 75 basis points. That 3/4 of a percent rate hike was met with market cheer. Investors on Wall Street were waiting for decisive action to combat inflation. Stocks ended up closing significantly higher on the day.Alas, all that was washed away and then some with violent selling the next day, Thursday, June 16th. Little Switzerland unexpectedly raised their target rate half a percent while the UK enacted their fifth straight interest rate hike, so stocks closed firmly in the red in action that I said (last week) looked a lot like capitulation. Everything went down. All sectors closed lower that day. Both stocks and ETF’s were sold in very high volume. It looked like a lot of people were finally throwing in the towel.
This type of volatility just goes to show that there really is only one piece of information that people are looking for to soothe their minds, and that is the slowing of inflation. The week prior, on June 10th, the Consumer Price Index (CPI) for May was released. The inflation numbers were just plain hideous. But there was one main takeaway: Inflation is running rampant mainly in just two areas: Food and gas.
Here I reprint a table which I took directly from the Bureau of Labor and Statistics, only I took the liberty of highlighting the inflation rates greater than 5%. The inflation culprits should jump out at you:
Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.
Previous inflation culprits, like medical care, are rising very slowly. It’s plain to see that energy and food costs are the main killers right now. Energy can be broken down into crude oil and its derivatives. This affects everything from diesel fuel, jet fuel, utility-piped gas services, and, of course, airfares, which are up 38% year over year. There is increased airfare demand over last year coupled with fewer flights, but energy costs related to air travel have skyrocketed, accounting for much of that increase as well.
The one thing all investors are really focused on – knowingly or not – is inflation expectations, and as inflation costs run rampant, the American consumer has no choice but to spend more. It costs more to drive to work and more to feed your family, and neither of those expenditures are really optional.
It will be hard to find relief until one thing happens – energy and food prices stop inflating. The bad news is that energy prices usually spike in the summer. That is due to a seasonal surge in demand as people use more air conditioning, and drive to summer vacations. The good news is that fuel demand then wanes in the fall.
Food costs have spiked for several reasons. Labor shortages due to COVID helped contribute to all sorts of supply chain issues. Even though more workers are back on the job, the backlog is still huge. It will take a long time to get back to pre-pandemic surplus days. The war in Ukraine only complicated matters.
Ukraine is the breadbasket of Europe. Ukraine and Russia supplied 35% of the world grain exports. And many farms are now offline. Even if the war ended tomorrow and farms were immediately able to start producing food again, it wouldn’t be enough. The world would have to wait a minimum of one crop cycle just to match output from the pandemic in an ideal situation, and we are far from that ideal now.
Naturally, the world has to grow and adapt to different situations. New food production and consumption avenues are being put in place. Our reliance on that region will certainly dwindle, even after the war ends.
These forces take time. In the meantime, stocks are wildly volatile. Much of the world assumes there will be a recession in the U.S., but President Biden and Fed chair Powell say that is not necessarily the case.
There are other bits of positivity to cling to. JP Morgan’s chief of macroeconomic research sees the S&P 500 up to 4,900 (from last Friday’s 3,911 close) by the end of the year. He sees no recession, and earnings analysts still have not cut earnings estimates. S&P 500 consensus revenues estimates for 2022 and 2023 are still at record highs. The same goes for earnings forecasts for 2022 and 2023. While profit margin estimates are edging down for 2022 and 2023, the forward profit margin rose to a record high last week.
That just indicates that the market hates this uncertainty over inflation. When we get wild differences of opinion, we see those reflections in volatility. But this volatility will not go away until we see slowing inflation. Prices at the pump and the grocery store need to start coming down. Once we begin to get signs like that, the market should find its footing and I would expect a significant rally from there.
The next CPI comes out July 13th. Based on what I see every time I fill up my car, I don’t expect fuel prices to edge down much. And feeding a family of five is as expensive as ever, so until we get some clarity on price stability in these two areas, I’d expect a bumpy ride in stocks. But as mentioned above revenue and earnings are still at record highs, while many stocks have been pounded into oblivion.
Once we get that one piece of information we’re looking for, lookout above, because I believe investors will be piling into oversold stocks. As far as all that bad news is concerned, an old newscaster got it right:
“We cannot make good news out of bad practice.” – Edward R. Murrow