Lending markets

High Inflation, Volatile Markets – Experts Talk Strategies for Tough Times

Markets rallied in mid-August after US consumer price index (CPI) data for July showed inflation slowed to 8.5% in the seventh month of the year. ‘year.

After hitting a 41-year high of 9.1% in June, lower energy costs and better-than-expected job creations brought inflation down for the first time since June 2020.

The positive news pushed all major North American markets higher as many speculated that with inflationary pressures easing, the US Federal Reserve would be less likely to raise interest rates an additional 75 basis points.

Percentage change in consumer price index over 20 years.

Chart via the US Bureau of Labor Statistics.

However, rising markets, more jobs and better wages could all be precursors to higher inflation in the fall.

The outlook for inflation and how the Fed is tackling it were big topics at this year’s rules symposium, held the last week of July in Boca Raton, Florida. The annual investor-focused event coincided with the central bank’s hike in July, which pushed interest rates up 75 basis points to a range of 2.25-2.5%.

The Fed must choose between fighting inflation or recession

Speaking at the event, Fed critic Danielle DiMartino Booth, as well as CEO and chief strategist of Quill Intelligence, immediately pointed out that the Fed is at a crucial crossroads.

“Are they going to fight inflation? Or will they fight the recession? says DiMartino Booth. “Not a good choice, is it?” But you can’t do both. And I think that’s what we need to focus on.

DiMartino Booth attributed soaring inflation to pandemic stimulus efforts, which injected “43.2% of cash (GDP) into the veins of American households” – with nothing to show for it.

With more money available to consumers and rising inflation, market participants may begin to see what James Rickards of Paradigm Press and Strategic Intelligence has described as “demand-pull inflation,” which, according to itself, stems from the demand side of the economy. inflationary mentality” and making large purchases in order to avoid paying later; this further propels inflation.

According to DiMartino Booth, the Fed seems to have chosen the fight against inflation rather than the fight against a recession, defined as two consecutive quarters of negative growth. The US economy officially slipped into this territory at the end of June when second-quarter GDP fell 0.9%; this was preceded by the 1.6% drop in the first quarter.

She believes the July rate hike that rallied markets, particularly the NASDAQ Composite (INDEXNASDAQ:.IXIC), which is 18% (3,000 points) from its January start, reveals the Fed’s choice.

“It’s because Jay Powell said, ‘I’ll fight recession, not inflation’ (July 27). That’s why the NASDAQ was up.”

Energy an inflationary engine and a good investment

DiMartino Booth also participated in a panel discussion titled “Taming Inflation — What Will it Take?” alongside David Stockman, Dr. Nomi Prins and symposium host Rick Rule.

During this discussion, DiMartino Booth explained that the Fed is more concerned with the perception of inflation than the actual rising costs to consumers.

“Inflation expectations are nothing more than how people perceive gas prices,” she said of the rate used to gauge what consumers expect from inflation at the moment. ‘coming.

Dr. Prins, financial expert and author, cited energy as the main catalyst for today’s runaway inflation. The Wall Street spokeswoman, who has held several senior positions at major financial institutions, prefaced her remarks by saying “Wall Street doesn’t really care what happens in the real world.”

“What they’re interested in is how they can position their books and how much money is coming in as cheaply as possible in order to position those costs,” she added.

Dr. Prins went on to say that Wall Street “will be fine” because it has positions on both sides.

“On energy, obviously the real economy and CPI inflation numbers are tied to the energy crisis,” she said. “I think what we’ve seen (July 27th) is the Fed looking at what’s happening in terms of the middle parts of inflation driving up that base number and driving up the headlines, which are all related to energy.”

Exorbitant debt alongside the Fed

Stockman, who served as director of the Office of Management and Budget under former US President Ronald Reagan, compared Fed Chairman Jerome Powell’s response to inflation to that of Paul Volcker, who chaired the Fed between 1970 and 1987.

The latter is credited with pulling the US economy out of the Great Inflation (1965 to 1982) using strict economic measures.

“If we had been at the level that Volcker faced in late 1979, early 1980, there would be $36 trillion in debt on the American economy. Today it’s actually US$88 trillion,” Stockman said.

According to Stockman, this massive indebtedness will leave the Fed with few options. “The difference is where the rubber will meet the road…the Fed has no choice but to keep tightening because inflation is much more deeply entrenched,” he said. “And it’s going to last a lot longer in that range (9%) than anyone expects.”

Mike Larson, income and dividend analyst at Weiss Ratings, also touched on the Fed’s efforts to stifle inflation during his presentation. He pointed to the inverted bond yield curve as a sign that something worse is afoot.

“With the Fed basically going into overdrive – very aggressive rate policy – ​​what you see is the yield curve inverting severely, and not just on a minor basis, but a reversal cycle severe persistent and consistent,” he said.

Showing a chart, Larson explained that the yield curve was sharply inverted ahead of the Fed’s July meeting. This occurs when the yield on two-year bonds exceeds the yield on 10-year bonds, and is often a precursor to recession.

“It’s more reversed and more deeply reversed than it was in the mid-2000s, just before the housing market started to crash, the Great Financial Crisis and all that,” he said. “It’s almost in the range of what we had both before the dotcom collapse (1995 to 1997) and what we had in the late 1980s before the 1990s.”

Larson’s worries were rightly justified, as the yield curve hit a 40-year high on Aug. 10 after the July CPI data. A trade blitz that followed pushed the two-year yield 58 basis points, the most extreme swing in 40 years.

How to position yourself when uncertainty reigns supreme

Whether or not there has been a spike in inflation, investors need to know how to structure their portfolios in times of turmoil.

“In any market, the idea is to try to be more defensive to focus revenue on sustainable gains,” Larson said.

The analyst suggested investors focus on higher-income, higher-rated stocks. “We want stocks and exchange-traded funds that will give you the chance to beat inflation or make those lasting gains,” he said.

The second area Larson highlighted was investing in precious metals to hedge against inflation and uncertainty.

“We want to increase your allocation to precious metals and mining stocks, given what is happening with inflation, given that we are in a higher volatility regime. People are going for what I call “chaos insurance,” he said.

Gold’s role as a store of wealth is likely to also come into play as economic uncertainty mounts.

“The inverted yield curve pretty much tells you that you’re going to have credit problems in the future,” Larson said. “Gold or precious metals are protected from it.”

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Securities Disclosure: I, Georgia Williams, have no direct investment interests in any of the companies mentioned in this article.

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