E On Inflation And Interest Rates

President Trump’s move early this week to quash Iran’s oil exports sent West Texas crude oil prices to $66, near six-month high. While by itself rising oil prices could be inflationary it’s hard to find much inflation elsewhere. Why?

The internet remains a potent disinflationary force. There are price pressures across many industries thanks to Amazon, Wal-Mart, Target, and others selling online.  Robots, automation, artificial intelligence (AI), better technologies and newer equipment all play a part, too. We are early in the transition from the industrial age, to the computer, the information and in time to the AI age in which literally billions of people with soon to be outdated skills will become irrelevant in the global economy. 

The benign inflation outlook is one reason interest rates have retreated, and that is good news for stocks. While some may focus on the downside of falling long-term rates (less income for savers) and maybe a yield curve that could at least temporarily be inverted, there are more than a few positives. By definition, a lower long-term interest rate raises the present value of future earnings and dividends, which is the key component of stock prices and increases valuations (price-earnings ratios). Falling long-term rates lower the cost of capital for Corporate America, which makes new investments more rewarding.  Lower mortgage rates help home buyers and therefore home builders.  People save by refinancing. 

There is another positive: Falling yields on bonds and income vehicles make stocks more attractive, especially those with above-average yields and the potential if not likelihood for dividend growth. Most of my recommendations are in that camp. Kinder Morgan announced a 25 percent dividend increase last week and expects to boost it again by 25 percent in 2020. Other attractive dividend-paying stocks include Merck, Pfizer, Enbridge, Verizon, and Avista. 

Despite all the positives, there are many non-believers or outright wrong-headed bears who have been just watching the bull run. In their view, the much expected and now clear slowdown supports such pessimism. No, it doesn't. Stocks are where they are instead of much higher because investors have been anticipating the weakening numbers we are now beginning to see. Next, we can expect investors to start to anticipate a better growth and profit picture long before the signs of it appear. To some extent they've already begun, which is why prices are holding up and in many cases rising.  For all these reasons and more there are better days ahead.  

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Disclaimer: David Vomund is a fee-only money manager. Information is found at vomundinvestments.com or by calling 775-832-8555. Clients hold the ...

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Gary Anderson 9 months ago Contributor's comment

Inflation is not a serious problem for the reasons the author points out, but future growth is not guaranteed either.