Vaccination regulations appear to be working, young children may be allowed vaccinations for Halloween, and the coronavirus appears to be receding. But these hopeful signs heralds a tumultuous new phase in the country’s economic recovery – and this puts Wall Street on a straighter footing than in recent months.
The Federal Reserve has indicated it will begin scrapping programs that have helped bolster markets over the past 18 months, while the breakneck economic growth appears to be slowing, underscored by a disappointing employment report last week.
And the rise in prices, fueled by pandemic shutdowns and supply chain disruptions, persisted. The key inflation indicator, the CPI, will be updated on Wednesday morning and will be watched closely by investors.
“The market has a lot to digest at some point in time, and to be fair, investors are grappling with a lot of unknowns,” said Matt Fruhan, a fund manager of nearly $ 3 billion large-cap stocks and other funds. for fidelity.
This uncertainty stalled the momentum that pushed stocks to a series of record highs over the summer. Last month, the S&P 500 experienced its deepest fall – 4.8 percent – since the start of the pandemic. Investors bounced back in October, pushing stocks up 1 percent.
By any objective measure, it has been a good year for stocks, with the S&P 500 up nearly 16 percent by the close of trading on Tuesday. But this unevenness reflects growing uncertainty about the next chapter of the recovery-driven rally, with stock prices fluctuating from day to day – and even hour by hour – more than in recent months.
The US labor market update on Friday reflected almost entirely the bewildering economic backdrop facing investors: job creation fell far short of expectations, but wage growth soared.
“Growth is slowing but inflation is picking up,” said Paul Megghesi, currency analyst at JPMorgan in London. “This is an unusual ending.”
Many look to history to try to figure it out, so Wall Street chatters about the chances of a return to the 1970s economic specter: the toxic mixture of sluggish economic growth and high inflation that has come to be known as stagflation.
The comparison is not perfect. At the time, inflation was in double digits and unemployment was nearly 9 percent. Neither inflation nor unemployment is now far from that high.
But on Wall Street, attention to stagflation is skyrocketing. Last week, financial news service Bloomberg published a record number of articles mentioning the term “stagflation”, the company said.
Mr Megghesi, who in a recent note to clients described the current situation as “facilitated stagflation,” is part of this surge of analysts rethinking the idea along with the risks it could pose to the markets.
The most obvious echo is the unexpected and prolonged rise in prices. As prices for sawnwood, microchips and steel rose this spring, Federal Reserve officials sought to say the increase would be “temporary.” Once companies are back to normal, production will increase, supply lines and stocks will be replenished, and prices will drop, officials said.
But in the wake of a new round of economic turmoil caused by the deltoid variant of the coronavirus, including many in key Asian manufacturing centers such as Vietnam, there is little sign that upward pressure on prices will go away anytime soon.
A report this month showed that the Fed’s preferred inflation rate rose at its fastest pace in 30 years in August, and this week’s used car wholesale price – an increasingly important factor in calculating inflation – hit an all-time high.
The rise in prices worries investors for several reasons. First, rising costs can reduce the profits of companies, which is a key driver of rising stock prices. Traders are also worried that if inflation rises too quickly, the Fed may raise interest rates to try to control it. At times in the past, Fed rate hikes have caused the market to fall. Higher rates make owning stocks less attractive than owning bonds, prompting some investors to ditch stocks.
“I think the reason we have become more volatile is because the market is starting to warm to the belief that inflation is not as transient as the head of the Federal Reserve continues to tell us,” said John Beiler, portfolio manager at Newton. Investment Management, where he oversees mutual funds with over $ 4 billion in client assets.
If anything, the pressure on prices seems to be growing.
In another echo of the 1970s – when the stagflationary dynamics were triggered by the 1973 Arab oil embargo – Russia has resisted an increase in natural gas supplies to Europe in recent months, despite surging demand. This has resulted in a spike in prices, a shutdown of some production activities and painful electricity bills in continental Europe and the UK.
In recent weeks, oil prices have climbed to their highest level in seven years after the powerful Organization of the Petroleum Exporting Countries began to gradually increase production. In the UK, where the term “stagflation” is commonly believed to have originated, last month’s fuel shortages due to a shortage of truck drivers caused panic buying and long queues at gas stations – another strange echo of the tumultuous 1970s.
“Historically, stagflation has often been accompanied by oil shocks,” said Jill Carey Hall, a stock market analyst at BofA Securities. “There is definitely a growing concern that we might end up in such an environment.”
The impact of the rise in oil prices was less dire in the United States, but prices also rose for a number of major commodities. The S&P GSCI Commodity Index, which tracks 24 tradable commodities such as aluminum, copper and soybeans, has climbed to its highest level since late 2014 in recent days. This suggests that inflationary pressures will continue to decline for some time to come.
The comparison between today and the 1970s does not seem to hold water because of the “idle” component of stagflation. In almost all respects, economic growth is expected to be very strong this year.
Analysts polled by Bloomberg predict that gross domestic product will grow 5.9 percent this year, the best since 1984.
But growth projections are dumping. On Sunday, Goldman Sachs analysts cut their 2021 US growth forecast to 5.6 percent. In March, it was 7.2 percent.
And on Tuesday, the International Monetary Fund cut its forecast for global growth for 2021 to 5.9 percent from 6 percent in July, while warning of the risks of supply chain disruptions that are fueling inflation. His forecast for the United States was cut to 6 percent from the 7 percent growth forecast three months ago.
Regardless, Kristalina Georgieva, the IMF’s managing director, brushed off any talk of stagflation in an interview on Tuesday. Ms Georgieva said the world is going through a period of stop-and-go recovery and that even if the United States is losing some of its significant momentum, other regions, including Europe, are gaining momentum.
“We do not see stagnation in the global economy,” she said. “We see that he is not moving in sync across the world.”
Stephen Rikchiuto, chief US economist at Mizuho Securities USA, said the breakneck growth in the first half of the year will never be sustained. “Expectations went out of reality,” he said.
But any sense of disappointment – despite the objectively good numbers – could affect the market over the next few weeks as large corporations begin reporting their third quarter financial results.
GDP growth is a key driver of income for large corporations. A slightly weaker economy could lead to lower sales than expected, just as inflationary pressures mean higher costs.
This is already a terrible combination for some companies’ corporate profits. Several well-known corporations, including FedEx, Nike, CarMax and Bed Bath & Beyond, have tumbled sharply in the past few weeks after the release of disappointing quarterly reports.
Lamb Weston, an Idaho-based frozen potato maker, tumbled after the company fell short of earnings expectations as everything from potatoes to cooking oils to packaging rose in price. The company’s shares have dropped nearly 12 percent since it announced its results and revised its forecast last week, saying its earnings will remain under pressure for the rest of the fiscal year.
“Previously, we assumed these costs would begin to gradually decline,” Bernadette Madarieta, the company’s chief financial officer, told analysts.
A similar fate befell other actions.
“People will be even more disappointed,” said Mike Wilson, chief US equity strategist at Morgan Stanley. “Even if the economy is okay, it may not affect the income people are counting on.”
Alan Rapport made reporting.