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Streetwise for Friday, August 21, 2020









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Streetwise for Friday, August 21, 2020

From professional investors to market amateurs, it is becoming almost impossible to stay bearish in the face of the ongoing rally in equities. Those who went to cash when the pandemic broke out have realized the error of their ways as stocks made their way toward historical highs. 

Wall Street forecasters, some of whom threw up their hands in surrender four months ago, are raising projections each day. Even Goldman Sachs, which once warned that bad loans and falling dividends could drive a second leg of the bear market, now sees another 6% of upside to the S&P 500.

Recovering from the fastest bear market ever, the S&P 500 will likely chalk up its quickest rebound on record. One key reason is the substantial stimulus provided by the Federal Reserve. Add to that a slight recovery in the economic data, for example housing starts were up the most since 2016, along with better than expected second quarter corporate earnings and optimism is the call of the day on Wall Street. 

Now I do not want to rain on your parade, but keep in mind that Walmart weighed heavily on the markets recently when it indicated it is bracing for a downturn in sales during the second half this year due to the discontinuance of government relief cash.

So, what else could go wrong? Well, for one if you look at inflation, excluding food and fuel, July’s increase was a shock as it posted the highest reading since early 1991:

Yes, this does seem to be a bit odd given that the single largest component of core inflation is shelter. This statistic is based on a sampling of the rents that people are paying. There is ample anecdotal evidence that urban rents are falling. Therefore, so you would expect a decline in this component.

Removing shelter costs from the equation, the result is an even more deviant inflationary shock, with the highest reading since 1981, when the battle against stagflation was reaching its climax.

Consider another example. Food away from home, which is mostly restaurants, fast food chains etc. During the past three months this figure is up +0.4%, +0.5% and +0.5% respectively, month-over-month. 

The cost of both new and used vehicles was up sharply last month. New vehicles were up 0.8% month-over-month, making it the largest one month increase since May 2011. Used vehicles were up 2.3% month-over-month, making that number the largest single month increase since Jan 2010.

This is classic inflation as put forth by the late Milton Friedman. Specifically, with excess liquidity and rising product demand prices move higher.

It is unquestionable that economic activity hit a brick wall earlier this year, resulting in substantial deflationary pressures on the economy. However, prices rebounded as we began to recover from that sudden halt. Moving forward, we are likely to see the addition of more genuine inflationary pressures.

Why should inflation rise now when it failed to respond to the huge asset purchases made by the Federal Reserve During the Great Recession? One argument being put forward is that back then asset purchases were coupled with government austerity. This led to rising asset prices and rising inequality, but not rising price inflation. 

Specifically, asset purchases will now find their way into buying actual stuff, which could be inflationary. At least that is the inflationist argument for why it will be different this time around. Remember that we are facing a pandemic, not a financial crisis brought on by Wall Street.

Unfortunately, as with most economic theories, you do not learn whether you were right or wrong for months or maybe years going forward.

Nonetheless, momentum in the financial markets remains positive, with a bullish outlook short-term. Evidence of this is Apple’s foray into becoming the first public company to eclipse $2 trillion in market value, an achievement highlighting the company’s commanding role in the world economy.

Apple’s shares have more than doubled from its March 23 low, due to steady product demand and better-than-feared results in its core iPhone business as millions of Americans work from home.

Lauren Rudd is a financial writer and columnist. You can write to him at LVERudd@aol.com. Phone calls accepted between 9 AM and 3 PM at (941) 706-3449. For back columns please go to www.RuddReport.com.

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