Stocks soared across the board yesterday with the exception of the energy sector, due to the more than $6 drop in crude oil, which is now well below $100 a barrel. Investors looked for bargains in technology names after the Nasdaq 100 fell into bear market territory. Oil continues to edge lower from its recent high on speculation that Iran nuclear talks will continue and hopes that negotiations between Ukraine and Russia in coming days will yield positive results. It looks like we will see some follow through from yesterday's rally, as overnight the Chinese government affirmed it would support its financial markets and economy with new stimulus measures to counter the slowdown in the rate of economic growth. That has investors looking for bargains in a deeply oversold market.
The focus will shift to the Fed today, as it is expected to conclude its two-day meeting this afternoon with the first increase in short-term interest rates since 2018. Investors will be focused on the Fed's dot plot, which shows where each member expects the Fed Funds rate to be by the end of this year and beyond. The consensus expects the committee will guide to at least four increases this year, which would be up from three in December, and three more in 2023. That still falls short of the six to seven that the futures market is predicting for this year, so Chairman Powell's press conference will be gleaned for clues. I expect Powell to lean more dovish in consideration of the uncertainties presented by the ongoing conflict in Ukraine, which should be bullish for risk assets.
I have discussed inflection points in the economic data that I think can start to swing sentiment in a more optimistic direction, and the decline in oil prices from as high as $130 a barrel to well under $100 is a perfect example. What should be the second is a peak in producer prices. Yesterday's Produce Price Index report showed wholesale inflation rose 0.8% in February, which was just below the 0.9% expected, but the core rate rose just 0.2%, which was well below the 0.6% expected. The year-over-year overall rate remained at 10%, as it stood in January. Where I see some daylight, to the chagrin of my bearish critics, is in the year-over-year decline in the rate of increase for services. We should start to see the same development for goods once energy prices roll over, which is clearly happening now with oil.
The increase in oil and gas prices over the past 30 days will put upward pressure on energy costs in the next report, but the decline in recent days, if it sustains, will lead to improvement for March. A decline in the year-over-year nominal and core PPI will be the first indication that inflation has peaked, and it will be critical in reversing the downward momentum in risk assets if that has not already occurred.
My father taught me many things during his very successful 40-plus year career on Wall Street, but perhaps the most valuable lesson learned was to focus on rates of change and not absolute numbers. We can pick any number and spin it to construct a bullish or bearish narrative, but the direction it is moving, and the rate of change cannot be spun.
I don't see how inflation expectations can get any worse, which is why we have had one of the worst starts to a year for the major market averages on record. Therefore, the slightest indications of improvement that can swing consumer and investor sentiment is what we should be looking for in the weeks and months ahead. The discounting mechanism of the market will identify this before most investors and stock prices will start to rebound well in advance of the improvement in the geopolitical and macroeconomic headlines.
The New York Fed's latest monthly Survey of Consumer Expectations revealed that consumers wage growth expectations for the year ahead are at a record level for the survey. That is a phenomenal absolute number.
The problem is that consumer expectations for inflation are double that of income growth, which is why sentiment is at historical lows.
Yet wage increases are far more permanent than price increases for goods and services, and much of today's concerns are centered on energy prices, which are extremely volatile. Therefore, when energy prices rollover, followed by producer prices and then consumer prices, the earnings growth less inflation expectations number will start to become less negative in the chart below. It will remain negative for many months, if not the rest of this year, but when the rate of change improves, we should start to see sentiment improve. That will be a strong indication that markets have bottomed.
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This article was written by
Lawrence is the publisher of The Portfolio Architect. He has more than 25 years of experience managing portfolios for individual investors. He began his career as a Financial Consultant in 1993 with Merrill Lynch and worked in the same capacity for several other Wall Street firms before realizing his long-term goal of complete independence when he founded Fuller Asset Management. He graduated from the University of North Carolina at Chapel Hill with a B.A. in Political Science in 1992.
Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: Lawrence Fuller is the Managing Director of Fuller Asset Management, a Registered Investment Adviser. This post is for informational purposes only. There are risks involved with investing including loss of principal. Lawrence Fuller makes no explicit or implicit guarantee with respect to performance or the outcome of any investment or projections made by him or Fuller Asset Management. There is no guarantee that the goals of the strategies discussed by will be met. Information or opinions expressed may change without notice, and should not be considered recommendations to buy or sell any particular security.