Is Inflation Still A Risk To The Stock Market?

Stocks traded near record territory on Tuesday, before pulling back before the close. Investors were digesting economic releases and awaiting Thursday’s key inflation update.

The market edged lower on Wednesday, with investors exhibiting caution ahead of Thursday’s inflation report. Treasuries strengthened as the yield on the ten-year note fell four basis points to 1.49%, near a one-month low.

The market was up on Thursday, with the S&P 500 closing at a new record as investors seemed to shrug off higher-than-expected consumer-price inflation (CPI) data. Consumer prices rose 5% year over year, which was faster than expected.

As I mentioned on Friday, the good news is that investors aren’t spooked anymore. The 10-year Treasury yield fell again to 1.45%, which is well below its recent high of 1.75%.

Stocks rose again on Friday, with the S&P 500 hitting another fresh record. Over the last month or so, the Federal Reserve has been trying to calm the markets over inflation data, saying it was transitory, and investors appear to be listening.

A preliminary gauge from the University of Michigan showed consumer sentiment improving more than expected this month on the economic front. The release also showed an unexpected decline in consumers’ inflationary expectations for the next 12 months, reinforcing the idea that investors are now less concerned about inflation.

Stocks continued to fluctuate on Monday, but the S&P 500 ended the day with a gain of 0.2%, a fresh all-time high. The Dow was down 85 points, but the Nasdaq Composite was up 0.7%, closing at a new record for the first time since April.

Market Outlook

So, what we’ve seen from investors over the past week, plus results from the University of Michigan consumer sentiment survey, showed that investors are less concerned about inflation. I am also less concerned with inflation.

If we look under the hood, higher energy prices are playing a significant role. If we think back to last year, oil demand was extremely low, making the current percentage rise temporary.

The key is to watch what happens over the next couple of months. When we measure year-over-year price increases, we have been looking at Spring 2020 lows. As you might remember, the economy started to rebound in late summer and early fall. So, I expected these annual rises to subside. But in the meantime, I do expect the market to remain somewhat choppy.

Wednesday is the most important day of the week as the Fed’s June meeting comes to a close. I will be keeping a close eye on Fed Chairman Jerome Powell’s press conference. I expect him to keep his thoughts close to the vest and stay on message. But if he does stray from their recent messaging, I expect the market may become more volatile.

Value stocks trailed their growth counterparts last week, but I expect that underperformance to be short-lived due to the strength of the economic recovery.