CPI reading of 8.2% for September, barely down from 8.3% in August showed how sticky inflation has become a part of the US economy. Wall Street was clearly not prepared for it with concerns that price pressures are getting entrenched leaving the S&P 500 down 1.6% over five days, bringing losses on the year to a crushing 25%. The inflation problem seems to run deep and almost certainly means another 75 basis-point hike is coming next month.
The Fed is now in a conundrum. Its interest rate hikes are not working and the only thing it can do is keep increasing interest rates until inflation comes down by which time the economy would be irreparably heading toward a recession. While most focus on inflation and interest rates, another looming issue is liquidity in Treasuries.
Is the worst to come or have we hit bottom?
Future Wealth’s View
The hard landing is already being felt by those who hold risky assets – Technology, Housing and Financials. For the rest who are in capital preservation mode, there are three options based on risk threshold and/or age.
1. If you are ultra conservative and/or over 60 years of age – Stay with capital preservation and income generation.
2. If you are between 40-60 years of age and/or moderately aggressive – Take the risks and look for undervalued companies with low P/E, good cash flow and dividends.
3. If you are under 40 years of age and/or extremely aggressive – Go for broke and buy the battered technology stocks that have a good business model, solid leadership position and sound management.
But, material risks to financial stability remain – specifically liquidity risk. As the Fed continues on its path toward tightening, money supply growth moves into the danger zone posing real risks to liquidity and financial stability. Thus far, economic and financial stability have not been issues that the Fed has had to deal with. If these two pillars break down, all bets are off.
To quote Mike Tyson – ‘Everyone has a plan till they get punched in the face.’