Weighing The Week Ahead: Is It Time To Worry About Inflation?

My Take

What I have been calling the “popular” or alternative view is readily accepted by most people. Inflation is a challenging topic. Some who have spent careers analyzing it have tried to improve the measurement. The average person gives it a moment’s thought. It is easy to play upon feelings like this. You can ask, “Why exclude food and energy? Don’t you have to eat and drive your car?”

One of my specialties is identifying concepts that present an “easy” viewpoint versus one that is more challenging. It is one of the best opportunities for investors to profit. It is like sitting at a poker table with a group of fish.

  • First, which approach does not work? The Fed bashing is concentrated among those who are attempting to explain failed theories or bad predictions. Some have so much credibility invested in the subject that they can’t change. And many do not need to be right. They just need readers! And what would have happened if the Fed had responded to the bogus 2011 signal on asset prices?
  • Second, why not think like an FOMC member? You cannot change policy, even if you think it is wrong.
  • Third, the best way to get the public view of inflation is the market-based spread between TIPS and Treasuries. I publish this each week. Next best is looking at the Michigan Sentiment survey expectations, which usually run slightly higher than market prices.
  • Finally, you can profit from understanding the Fed perspective and what is likely to happen next. You want to understand policy changes and adjust your portfolio.

These are the elements of “Don’t Fight the Fed” with just a little added explanation.

I’ll have some additional observations in today’s Final Thought.

Quant Corner and Risk Analysis

I have a rule for my investment clients. Think first about your risk. Only then should you consider possible rewards. I monitor many quantitative reports and highlight the best methods in this weekly update, featuring the Indicator Snapshot.

Both long-term and short-term technical indicators remain neutral, but are now deteriorating.

The C-score has moved slightly lower implying greater odds of a recession within the next nine months. Since May we have been watching for confirming data. Like others, we don’t see much of that. Most sources have lowered recession odds, so why has the C-Score fallen? The potential for inflation. So far, so good on that front, but it is important to keep the Fed out of play while we start to enjoy reduced trade war effects.

The Featured Sources:

Bob Dieli: Business cycle analysis via the “C Score”.

Georg Vrba: Business cycle indicator and market timing tools. The most recent update of Georg’s business cycle index does not signal recession nor does his unemployment rate method.

Brian Gilmartin: All things earnings, for the overall market as well as many individual companies.

Doug Short and Jill Mislinski: Regular updating of an array of indicators. Great charts and analysis. With the release of the employment data, it is time for an update of the excellent “Big Four” presentation.

Guest Sources

Here is an interesting approach to the analysis of GDP. Goldman Sachs looks at what level of GDP growth is implied by a long list of individual indicators – in the absence of any other information.

Paul Schatz discusses the “early January indicator.” (That always seems to get a big play when there is a weak start to the year). He does some testing. Yes the market usually moves higher – 78% of the time. It also moves higher 74% of the time for any random year since 1990.

“Davidson” (via Todd Sullivan) has a good take on the challenges of quantification when evaluating unusual events. He considers the effects of the reduction in regulation, some accomplished and more to come.

Take a look at the list of policy changes he cites. Here is just one example:

Deregulation remains in early stages. Dodd-Frank legislation has virtually stalled single-family mortgage lending at less than half what the MCAI(Mortgage Credit Availability Index) suggests should be normal during economic recovery. This has left single-family starts stalled equal to the lowest levels experienced in housing recessions since 1959. The roll-back of Dodd-Frank rules treating community banks, the source of most mtg lending, with the same set of regulations as the Money Center banks has only just begun. Should this prove successful, upwards of $600 Bill annually of new mortgage lending could enter new single-family building to offset the severe housing shortage we currently have in single-family homes. More Quid Pro Quo. It will take several years to satisfy single-family housing demand and this is one reason to expect 3yrs-5yrs of additional economic expansion this cycle. But, there is more policy to this story.

Insight for Investors

Investors should understand and embrace volatility. They should join my delight in a well-documented list of worries. As the worries are addressed or even resolved, the investor who looks beyond the obvious can collect handsomely

Best of the Week

If I had to recommend a single, must-read article for this week, it would be Chuck Carnevale’s This Is How You Can Beat The Market Without Fail. As usual this is worth a careful read backed up by viewing the video. First, how to measure performance.

Moreover, this speaks to one of my biggest pet peeves as a financial professional, which is listening to the common refrain that most active managers can’t beat the market (S&P 500). The reason this aggravates me so much is that I have never found it practical or useful as a professional manager to even try to “beat the market.” Investors are unique, and as such, possess investment objectives that are also unique to their own goals, objectives and risk tolerances.

He supports this idea with a great example.

…[I]nvestors might be better served to build a portfolio of individual stocks that meets their specific goals, objectives and risk tolerances. A good example could be a portfolio of blue-chip dividend aristocrats with a long history of increasing their dividend every year. In contrast, the S&P 500 would also include stocks that don’t even pay a dividend.

Next, fitting the investment to real needs – frequently dependable income no matter the environment.

And what about counting realized versus unrealized gains and losses? He looks back to the 1998 – 2000 era where the “false profits” disappeared in short order.

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Disclosure: Is your portfolio ready for the Great Rotation? Do you have too many expensive stocks? If you are unsure, write for my brief paper on Four Signs of Portfolio Trouble. Just send an email ...

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