6 questions about the market and the economy

I did a radio interview this week.

I don’t do a lot of these things because it’s just easier and more comfortable talking about things on my podcast, but this one sent me a great list of questions ahead of time which I liked.

Here are 6 of the best questions with some thoughts on each:

(1) What is your reaction to the latest CPI report and your inflation outlook?

Inflation was practically stable from June to July.1

This is the first good news we’ve had on the price front in a while. You can see the finally softened energy components in a big way (via BLS):

Inflation of 8.5% over the past 12 months is still uncomfortably high, but it will take some time for this rate to come down, even if prices continue to slow in the months ahead.

Obviously, a data point does not make a trend, but it seems that the actions taken by the Fed as well as some easing of the supply chains have helped to stop the uninterrupted rise in prices.

Gas prices are down like 60 days in a row. Oil prices are falling. Used car prices are finally coming down.

We can build on that (hopefully).

(2) Where does the Fed go from here?

It’s hard to know exactly what the Fed will do without knowing what the inflation data will look like in the coming months.

In the summer of 2020, the Fed said it was comfortable letting inflation spike for a while if it meant a more robust recovery for the labor market.

The labor market is certainly in a better position than it was in 2020, but inflation is slightly above its 2% target.

Fed officials say they’re not done raising rates yet, and I tend to believe them (for now):

Minneapolis Federal Reserve Chairman Neel Kashkari said Wednesday he stands by his view that the U.S. central bank will need to raise its key rate by 1.5 percentage points this year and more in 2023, even if it causes a recession.

The Fed is “far, far away from declaring victory” on inflation, Kashkari told the Aspen Ideas conference, despite “welcome” news in the Consumer Price Index report earlier today that inflation may have started to subside.

Kashkari said he had ‘seen nothing that changes’ the need to raise the Fed’s key rate to 3.9% by the end of the year and 4.4% by the end of the year. of 2023. The rate is currently between 2.25% and 2.5%.

The Fed has waited too long to act and they don’t want to look like fools anymore.

They care more about inflation than the labor market right now, so they’ll probably keep raising rates until we get a number of lower inflation rates.

If they go too far, it must pose a risk to both the stock market and the economy.

(3) What does a soft landing look like?

Let’s start with what a hard landing looks like and back up.

A few months ago, I looked at what happened to the unemployment rate in past recessions:

The average increase is more than double the lows. This would bring us to over 7% of the current unemployment rate of 3.5%.

For me, a soft landing would see inflation below around 4% without a commensurate increase in the unemployment rate. The lowest level ever reached in past slowdowns is just over 6%.

I would say any unemployment rate of 5% and below would be a win if we could bring inflation down to around 3%.

What is the scenario that could make this possible?

The job market is in a weird spot right now because there are more jobs available than people looking for one:

These openings fell slightly, from 11.7 million to 10.7 million. The Fed’s dream soft-landing scenario would see those openings drop by 4-5 million, but the jobless rate isn’t well above 4-5%.

Is it really possible?

History says no, but employers have faced a tough hiring market since the pandemic began.

Sam Ro wrote a thought-provoking article this week on the concept of labor retention that is worth considering:

So what explains the current reluctance to lay off workers?

Maybe recent experience has something to do with it.

Much of the ongoing economic recovery has been accompanied by persistent labor shortages. Employers have not been able to hire quickly enough to meet the growing demand for their goods and services.

At least some of the employers who are seeing their business slow right now remember how difficult it has been to recruit talent over the past two years and would rather simply retain their employees, even if it comes with ownership costs.

For convenience, of course, it’s easier to hang on to workers during a downturn or recession if you expect the downturn to be brief and superficial.

Millions of people were laid off or shelved in 2020, making it harder to turn over staff once demand returned faster than companies were used to.

What if employers retain more employees than in past recessions if they assume the next one will be mild?

What if companies don’t want to start the hiring process again after a recession?

This is probably the best scenario for a soft landing if the Fed causes a significant slowdown in economic activity to bring inflation under control.

(4) What is your general vision of the markets and/or of a recession?

I wish I had a good answer for this one. I do not know.

We could enter a recession as the stock market hits all-time highs.

Or we could see the stock market tank even if the economy improves from here.

Sometimes these things don’t make sense.

My macro outlook has never really helped my portfolio that much.

Sometimes my thoughts on the economy/markets would have served me well. Other times, my thoughts on the economy/markets would have destroyed my portfolio.

Here’s a little investing secret that the pros will never admit: you don’t have to predict the future to succeed in the markets.

Outlook is more helpful to your ego than your performance in most cases as long as you have a reasonable investment plan in place.

(5) What can we learn from this slowdown?

Since the start of 2020, the US stock market has fallen 34%, risen 120%, fallen 24% and now gained nearly 17%.

In less than 3 years, it feels like you’ve gone through every cycle imaginable – 1918, 1929, 1999, the 1970s, maybe the 1960s and another parallel that I probably miss.

All in the markets is cyclical.

Things that have never happened before happen all the time.

The biggest risks are always the things you don’t think about or prepare for.

(6) Have we bottomed out in the markets?

I tried this one a few weeks ago and the markets have gone up even more since then.

If inflation continues to improve and there is no external shock to the system, it wouldn’t surprise me to see new highs by 2023 (maybe sooner?).

But the risk of a Fed policy error has probably never been higher, so I wouldn’t be surprised to see more volatility in the months ahead either.

If that was the background, it will seem obvious once we know for sure.

If stocks go up again, that will also seem obvious.

That’s the kind of market we’re in.

If stocks fall further, this could represent a good opportunity to rebalance in pain.

If stocks continue to rise, you will only have to wait for the next correction to buy at lower prices.

Bottom or not, volatility is a feature of the stock market and it will return at some point.

Further reading:
Every time it’s a guess

1Technically it was 0.02% lower, but I’m not a fan of decimals with economic data.

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