I recently wrote about our 2021 version of Atlas Shrugged. Now we are faced with a case of Investors Shrugged.
The bull market continues, and it doesn’t seem like anything is going to faze it at this point.
The latest CPI numbers were released showing that price inflation for May came in at 0.6%. This is after coming in at 0.8% for April. So based on the last two months, annual price inflation, according to the government’s statistics, is running above 8%.
It came in slightly higher than what was expected, but investors shrugged. Stocks went up at the opening bell.
This is what stock investors (or maybe speculators is a better term) are telling us. They are saying: “It doesn’t matter that prices are rising. This is good for stocks. And the Federal Reserve isn’t even thinking about discussing the possibility of tapering, so let the party continue.”
The Fed says that this price inflation is “transitory”. Tell that to a struggling American family when they pay 10 dollars more per week for groceries. Sure, it’s only 10 dollars, but that is 10 dollars for every week. That is over 500 dollars extra per year for groceries. And it’s not as if prices just went up once. They are continuing to rise.
“Sorry kids, we’ll have to scrap together some leftovers and supplement it with rice and beans for the next few dinners. But it’s ok. Jerome Powell has assured us that this is just transitory.”
The Federal Reserve’s balance sheet is approaching $8 trillion as I write this, and we are constantly hearing about shortages. But production isn’t what matters to investors (speculators). What matters is the easy money coming from the Fed, which keeps the speculative frenzy going.
You may have trouble buying a car or a new appliance for your kitchen, but your portfolio of stocks and crypto is out of this world.
The CPI Numbers
The less volatile median CPI ticked up to 0.3% for May. The CPI less food and energy was up 0.7% for May.
The year-over-year CPI now stands at 5%. You can look at this a couple of ways. First, many things were under lockdown or heavy restrictions one year ago, so people were likely not spending as much money. So in this sense, the 5% maybe doesn’t seem so bad.
On the other hand, price inflation was coming in rather mild last year and earlier this year as compared to now. So if the numbers keep coming in hot, that year-over-year change is going to go higher.
We have seen three months in a row of 0.6% or higher. For March, April, and May, it was 0.6%, 0.8%, and 0.6%, respectively.
Again, based on this, price inflation, according to the CPI numbers, is running somewhere around 7 or 8 percent annually.
At 8 percent annual price inflation, prices would double approximately every 9 years. Use the Rule of 72. Take 72 and divide by 8, and you get a doubling every 9 years.
Don’t wait to buy that Tesla, or it may cost $180,000 in less than a decade. (The first half of that sentence is a joke.)
Inflation and Stocks
Stocks can provide something of an inflation hedge over long periods of time. But it is not as if stocks can’t go down right now, and we also must consider the impacts of inflation.
Most publicly-traded companies have significant input costs. If the price of raw materials goes up, and a company needs those raw materials to build its products, then its costs are going to go up.
One input cost that almost every company has is labor. Businesses are having a hard time finding dependable workers, especially when they are competing with the government’s generous unemployment benefits. In order to hire people and get them stay, businesses will have to start raising wages, if they haven’t already. This is a major cost for most companies.
One response to this is that companies can just charge more money for their products because their input costs are higher. This is true to some extent, but there is no guarantee that customers can afford the higher prices or are willing to pay them.
Some businesses will be hurt more by inflation than others. But inflation does not help profitability except perhaps on a nominal basis. In real terms, most companies are ultimately hurt by inflation.
Maybe it makes sense that stocks are going up in nominal terms, but the gains we have seen are far and beyond the reported price inflation numbers.
It is a good reminder that, even during the high-inflation times of the 1970s, there were periods when stocks went down significantly.
At some point, if price inflation gets into double digits and stays there, the Fed is going to have to slow down its monetary inflation (taper), or just outright stop it. I think they will ultimately choose this path over hyperinflation.
I can’t repeat enough that this is unsustainable. Something is going to happen. You can call it a correction. You can call it a reversion to the mean. The bear market in stocks (and many other asset classes) will eventually arrive.
Investors (speculators) have shrugged off the inflation news, but they won’t be shrugging when the selling frenzy begins.