Site icon Directional Advisors

What I Care About This Week | 2021 Oct 4

Photo by Pixabay on Pexels.com

by Franklin J. Parker, CFA

The Summary

The Details

Inflation is again on everyone’s mind.

Whether high inflation readings are the result of monetary policy—and thus under the control of the Fed—or whether they are driven by supply constraints is central to the debate. How investors answer that question will determine portfolio allocations, so this is a central questions that must be wrestled with.

The Fed has maintained that high inflation figures are from supply constraints caused by COVID and other supply-chain disruptions. Others have insisted that easy monetary policy (i.e. low interest rates and money printing) are to blame.

I have a more nuanced view.

In a normal recession recovery, employment is the last to recover. That leaves many people with less cash than they had in the expansion, and so the demand for goods and services is rather slack. Once the economy reaches full employment, demand again increases and price inflation begins to manifest.

Employment has behaved similarly in this recovery as in past ones (though it has recovered faster than in previous recessions). However, unlike in past recoveries, extended unemployment benefits and numerous rounds of stimulus has given people substantially more buying power than they would otherwise have. This excess buying power has yielded much higher demand for goods and services than we would normally have. Given that there are more job openings than unemployed persons, this indicates that production and demand are significantly mismatched in our economy.

Of course, while not specifically driven by monetary policy, these extra benefits have been paid with newly-printed money from the Federal Reserve.

Current inflation, then, is caused by both monetary policy and ongoing supply constraints.

For investors, this means that the amount of inflation we can expect to fade is the part driven by supply constraints. This is okay news—not great and not bad. Inflation should abate somewhat, and the Fed’s tightening schedule may serve to reign in some of the monetary portion of the problem. Of course, the Fed’s tightening schedule will also serve to slow economic growth, as well. There is a tug of war at play.

As I have said many times before, the most important attribute for investors right now is flexibility. We must take this one data point at a time and be willing to make portfolio adjustments based on new data, especially inflation.

Chart of the Week

This week’s chart comes from the Wall Street Journal, and demonstrates the percentage of items that have seen price increases. As the chart shows, we are seeing the highest number of items with price increases since 2009. Much higher and this would put us back into the 1980s, a period characterized by higher-than-desired inflation. In the end, this is worth keeping a close eye on.

This document is a general communication being provided for informational purposes only. It is educational in nature and not designed to be taken as advice or a recommendation for any specific investment product, strategy, plan feature or other purpose in any jurisdiction, nor is it a commitment from Directional Advisors to participate in any of the transactions mentioned herein. Any examples used are generic, hypothetical and for illustration purposes only. This material does not contain sufficient information to support an investment decision and it should not be relied upon by you in evaluating the merits of investing in any securities or products. In addition, users should make an independent assessment of the legal, regulatory, tax, credit, and accounting implications and determine, together with their own financial professionals, if any investment mentioned herein is believed to be appropriate to their personal goals. Investors should ensure that they obtain all available relevant information before making any investment. Any forecasts, figures, opinions or investment techniques and strategies set out are for information purposes only, based on certain assumptions and current market conditions and are subject to change without prior notice. All information presented herein is considered to be accurate at the time of production, but no warranty of accuracy is given and no liability in respect of any error or omission is accepted. It should be noted that investment involves risks, the value of investments and the income from them may fluctuate in accordance with market conditions and taxation agreements and investors may not get back the full amount invested. Both past performance and yields are not reliable indicators of current and future results.

Exit mobile version