Arguably, the number one concern in 2022 for most investors, consumers, and businesses is inflation. Inflation is rising in the US and globally, and recent reports this week were not good. There are signs of it everywhere, but it shows up in food prices the most for consumers as farms and manufacturers struggle with labor shortages and higher input costs. The same chicken breast or thigh you bought before is now about $1.00 to $2.00 per pound more than at the start of 2021. In addition, the packaged food giants all announced price increases. Inflation is also showing up at the pump as the price of oil rises, and oil production struggles to keep up with consumption in 2021 and into early 2022.

Photo by olieman.eth on Unsplash

Inflation was initially viewed as transitory in 2021 by the US Federal Reserve and Chairman Jerome Powell. The reason why seemed like a good explanation, demand snapped back faster than supply and caused prices to rise. Once supply catches up to demand, inflation would subside. It makes sense, but the only thing that has been transitory about inflation is the opinion that it is transitory. Inflation in 2022 is still hot, and seemingly supply chains have not yet caught up, although there are now signs inflation may be easing in 2022.

 

Latest Reports Are Punishing

In November 2021, prices rose by 6.8% over the past 12-months, according to the Consumer Price Index (CPI). Subtract out volatile energy and food prices, and the core CPI rose only +4.9%. The Personal Consumption Expenditures (PCE) Price Index, the US Fed’s favorite measure of inflation, was up 5.7% in November 2021.

The latest report about inflation shows it is still high but decelerating. The newest information from the Bureau of Labor Statistics (BLS) indicated the CPI increased 0.5% in December after a 0.8% increase in November. Specifically, the report stated,

The Consumer Price Index for All Urban Consumers (CPI-U) increased 0.5 percent in December on a seasonally adjusted basis after rising 0.8 percent in November, the US Bureau of Labor Statistics reported today. Over the last 12 months, the all items index increased 7.0 percent before seasonal adjustment.

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Source: US Bureau of Labor Statistics

The last time the CPI rose 7% in 12 months was in June 1982, a time of high inflation and recession. However, core CPI increased 5.5%, the highest since February 1991. It will be interesting what the PCE report will state when published at the end of January, but it also should show an increase.

Is Inflation Moderating?

Despite the negative headline numbers, there are signs inflation is moderating. For instance, the Index for meats, poultry, fish, and eggs fell 0.4% in December after rising 0.7% per month for the previous seven months. Reportedly, the price of beef is down (-2.0%), and the price of pork fell (-0.8%) from November 2021 to December 2021. In a second example, energy prices (-0.4%) are declining, including gas (-0.5%), fuel oil (-2.4%), and natural gas (-1.2%) after significant increases in October and November. 

Some of this decline is weather-related, but omicron is limiting travel too. One point to note is the US is oil and gas rig count is now much higher than one year ago and more than double the low during the nadir of the pandemic. This increase should result in more oil and natural gas production. As a result, US oil expectations and natural gas production should increase in 2022 after the lows in 2020 and set a new record in 2023.

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Source: Baker Hughes Rig Count

The Fed Is Tightening Fast

The primary response about higher inflation has been tapering from the US Federal Reserve. The US fiscal policy was extremely expansionary for much of 2020 and 2021. The Fed’s response started reversing in late 2021 and will likely accelerate in 2022. The Fed seemingly views the US at full employment, and notably, the unemployment rate is now down to 3.9%.

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Source: Trading Economics

Until November 2021, the Fed was buying $120 billion in US Treasury and mortgage-backed securities (MBS) per month. This dollar value was cut to $90 billion in December 2021, and it was further lowered to $60 billion in January 2022. The Fed’s bond-buying will be lower in February 2022 and March 2022, making it likely no bonds will be bought in April 2022. If the Fed stops buying bonds, its ~$8.8 trillion balance sheet will shrink.

Furthermore, the US Federal Reserve’s dot plot is showing three interest rate increases in 2022, presumably after tapering is completed.

Impact on Stocks

The common refrain is the Fed’s tightening is causing stock market volatility. The CBOE VIX did spike to more than 30 early in December, but it has returned to the normal range for the pandemic. So although it seems like stocks have been more volatile, the VIX does not support the statement. 

However, the NASDAQ has dropped, and it is the worst-performing Index year-to-date (YTD) and in the past 1-month. Tech stocks have historically performed poorly during rising interest rate environments, especially if the company was unprofitable. Reportedly, the number of stocks in the NASDAQ down about 50% or more is near a record. Four in every ten stocks on the NASDAQ are down about half from their 52-week highs. This decline is like a repeat of the dot-com era where the Index was near a peak, but components of it were down significantly. The reasons why are many profitable mega-cap and large-cap tech stocks in the NASDAQ are still trading near their peaks.

On the other hand, value stocks in the Energy, Financials, Consumer Defensive, and Industrial sectors are performing well.

Final Thoughts on Inflation 2022

Inflation is here to stay in the near future. As a result, it will take time for supply to catch up to demand and the Fed’s action to work its way through the US and global economies. However, the stock prices of some tech stocks have dropped significantly and are setting 52-week or multi-year lows. As a result, investors may find some stocks that are deals and trading below their margin of safety. The other benefit for savers is I-Bond interest rates are the highest in years.

The Stock of the Week

Today I highlight the healthcare sector. The sector is being pummeled year-to-date, down (-5.7%) and has performed poorly on a relative basis in the past 1-year. Some stocks in the sector are declining due to the omicron variant. Investors fear lower hospital procedures and elective surgeries will damage revenue and earnings. However, omicron may well be peaking in places in the US. The poor performance of healthcare stocks have made some relative bargains. Investors should look at at Merck (MRK), Amgen (AMGN), and Medtronic (MDT).

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Source: Stock Rover*

Dividend Increases and Reinstatements

I have created a searchable list of dividend increases and reinstatements. I update this list weekly. In addition, you can search for your stocks by company name, ticker, and date.

Dividend Cuts and Suspensions List

I updated my dividend cuts and suspensions list at the end of December 2021. As a result, the number of companies on the list has risen to 541. Thus, we are well over 10% of companies that pay dividends, having cut, or suspended them since the start of the COVID-19 pandemic.

In December, there were no new additions, indicating that companies are experiencing solid profits and cash flow.

Market Indices

Dow Jones Industrial Averages (DIA): 35,911 (-0.88%)

NASDAQ (QQQ): 14,893 (-0.28%)

S&P 500 (SPY): 4,663 (-0.30%)

Market Valuation

The S&P 500 is trading at a price-to-earnings ratio of 26.7X, and the Schiller P/E Ratio is about 38.5X. These two metrics were down the past three weeks. Note that the long-term means of these two ratios are 15.9X and 16.8X, respectively. 

I continue to believe that the market is overvalued at this point. I view anything over 30X as overvalued based on historical data. The S&P 500’s valuation came down as the index companies reported solid earnings for the second consecutive quarter.

S&P 500 PE Ratio History

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Source: multpl.com

Shiller PE Ratio History

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Source: multpl.com

Stock Market Volatility – CBOE VIX

This past week, the CBOE VIX measuring volatility was up 0.5 points to 19.19. The long-term average is approximately 19 to 20. The CBOE VIX measures the stock market’s expectation of volatility based on S&P 500 index options. It is commonly referred to as the fear index.

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Source: Google

Yield Curve

The two yield curves shown here are the 10-year US Treasury Bond minus the 3-month US Treasury Bill from the NY York Fed and the 10-year US Treasury Bond minus the 2-year US Treasury Bond from the St. Louis Fed.

Inversion of the yield curve has been increasingly viewed as a leading indicator of recessions about two to six quarters ahead, according to the NY Fed. The higher the spread between the two interest rates, the higher the probability of a recession.

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Source: NY Fed

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Source: St. Louis Fed

Economic News

The US Bureau of Labor Statistics reported the consumer price index rose 0.5% in December; this follows a 0.8% increase in November. The Index’s year-over-year rate is up a seasonally adjusted 7.0%, the fastest annual pace since June 1982, and follows a 6.8% reading in November. The seasonally adjusted increase is due to increases in used cars and trucks (+3.5%), food (+0.5%), and shelter (+0.4). The increase was partially offset by a decline in the energy index (-0.4%), as the indices for both gasoline (-0.5%) and natural gas (-1.2%) dropped. Core CPI increased a seasonally adjusted 0.6% in December and followed November’s 0.5% reading. The Core CPI inflation rate is 5.5% and follows a 4.9% increase in November; this is the most significant 12-month increase since February 1991.

The US Bureau of Labor Statistics reported the Producer Price Index for final demand, which measures prices businesses receive for their completed goods and services, increased a seasonally adjusted 0.2% in December. On an unadjusted basis, the final demand Index was up 9.7% for the 12 months ending in December; this is the most significant increase since the government started calculating in 2010. The number reflects a decline in commodity prices for food (-0.6%) and energy (-3.3%). Prices for services increased 0.5%, with half of the broad-based advance attributed to a 0.8% increase in trade prices. Transportation and warehousing costs were up 1.7%. Goods prices declined 0.4% in December, the first decline since April 2020, driven by a decrease of 6.1% drop in the Index for gasoline.

The Commerce Department reported that advance US retail and food services sales declined 1.9% to $626.8B in December, following an upwardly revised $639.1B in November. This decrease is the first decrease after four consecutive months of sales increases and the steepest decline in 10 months. Retail sales are running 16.9% higher than a year ago. Total sales for October 2021 through December 2021 were +17.1% year over year. All except three sectors saw decreases, with department store sales dropping 7.0%, home furnishings down 5.5%, sporting goods and hobby falling 4.3%, clothing and accessory sales declining 3.1%, and restaurant sales dipping 0.8%. 

Thanks for reading Inflation 2022 – Week in Review!