May 12, 2021

The Inflation Dilemma

“One can carry an umbrella every day, it eventually rains, but it still looks silly”

    Having participated in the US Treasury Market for longer than I prefer to admit, I’m serious when I say that the interest rate benchmark for nearly all sovereign debt in the western economies are Treasuries and Treasuries need no country, no market, no central bank, and no government to tell it when it’s time for rates to rise. At this moment, the US 10yr Note is currently 1.69%, not exactly a high rate, but enough of a move higher in recent months to bring out the fear mongers.  Are they wrong?

    Inflation has a number of indicators, today the monthly Consumer Price Index (CPI) was released, and it was up .8%, suggesting an inflation rate of at least 3%. This is higher than in over 10yrs, but more importantly it’s over the 2% annualized target for the Fed. But as the Fed’s position to wait and see is seen as dragging their feet, history has shown us the problems with reacting too quickly. However, this time could also be different as the opening of the economy is faced with uncertain outcomes. From an investing standpoint, capital is moving into companies that seem to favor those with ample discretionary cash, and in my opinion, are compelling but most mostly seasonal and not necessarily long term, which is where I’m looking to invest. Companies that are about getting on with life, like not eating eat at home all the time, eating out more often. Or, as masks come off, public appearance needs feeds apparel, or social interaction grows the demand for, my favorite, wine and beverages. For some extra yield, the introduction of 5G makes Telecommunications and the near certain legislative focus on healthcare interesting sectors to grow in the portfolios. All not complementary to inflation, but resistant.

    The current technical condition of the markets is mixed. The Nasdaq is currently oversold, and the S&P and Dow are experiencing mutual corrections that are soon to follow. At that point, the trigger that defines the bottom will be, as always, what’s next. In the meantime, the concerns regarding inflation have had us allow cash levels to grow. But the challenges on to what level inflation will go are what will ultimately slow the growing pessimism on equities. And predicting the future of interest rates as an indicator is no easier than predicting the future of the equity indexes, a good reason to accommodate technical analysis into one’s investment strategy. The pattern of rising rate fears on the back of severe inflation is nothing new, and the reaction coming from the equity markets are reflecting that dilemma. That’s because the impact of market declines on equity valuations, especially those dependent valuation models such as Discounted Cash Flow are seeing the growth stocks adjusting their multiples. In short, they’re getting cheaper, and while it hurts a bit, cheaper is more attractive, especially when we’re talking about companies with strong balance sheets, cash on hand and competitive business strategies. For now, adding to existing positions in this space is on hold, and new additions are in focus.


No comments: