Allie P. from Norman, OK asks: Hello Mitch, I noticed last week that the market shot up when the inflation numbers came out, but the numbers weren’t even that great. Do you think this is just another bear market rally like we saw over the summer? Thank you.
Thanks for writing. You’re right – the October inflation numbers (7.7%) that came out last week were not that great, but they were better-than-expected and they did mark a meaningful decline from June’s peak 9.1% rate and the 8.2% print in September. When the volatile food and energy categories are stripped out, the ‘core CPI’ was seen rising 6.3% year-over-year in October, down from the 6.6% rate in September. These are moves in the right direction.1
To be fair and to your point, however, these numbers tell us inflation is still elevated and that the Federal Reserve has more work to do. But it also signals that inflation is likely getting better—not worse—which could tell us we’re moving closer to the peak in the interest rate cycle, not further away.
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The market may be showing ‘better-than-expected’ inflation numbers, but I wouldn’t get too comfortable. Just imagine…you are working hard to build up your retirement and then the market plunges. What happens to your portfolio?
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Consider this bit of history as well—since 1960, the consumer price index (which measures inflation) has gone above 6% on five occasions, in 1970, 1974, 1979, 1990, and 2022. We don’t yet have confirmation for what will transpire this year, but in every other historical instance when CPI peaked somewhere above 6% and started falling, stocks staged relatively powerful rebounds. In many cases, stocks don’t need ‘good’ or ‘great’ to do well – they just need ‘less bad.’ In other words, by the time inflation gets back down to the 2% – 3% levels the Fed wants, the market will likely be well into the next bull market, having anticipated these gradual improvements over time.
Last week, the 2-year U.S. Treasury rallied strongly on the same day stocks did. The 2-year tends to shift alongside expectations of future Fed policy, so the sharp decline in yield (and increase in price) showed investors anticipating that the pace of Fed increases may moderate with the favorable inflation reading. Traders are betting that the Fed will raise the benchmark fed-funds rate by 50 basis points at the December meeting, easing concerns of another aggressive 75 bp rate hike.
A too-optimistic outlook for future Fed policy is what got the markets in trouble over the summer, and it’s possible we could be seeing a repeat of that now. Fed governor Christopher Waller, likely sensing the market’s shifting optimism, tried to temper expectations last week when he said: “The market seems to have gotten way out in front on this. Everybody should just take a deep breath—calm down. We have a ways to go yet.”
Over the last 40+ years, there have been numerous bear market rallies that last an average of 44 days with positive returns usually around +10% to +15%, where cyclicals outperform. It’s possible we’re in one now. But I have also written previously that what we’re looking for now are more signs that a mild recession is underway and that inflation has topped out, both of which would indicate a turn in the cycle for markets. I think we’re seeing more of these signs now than we were over the summer.
The future of the market is unpredictable – and that’s why I recommend that investors, especially those who are nearing retirement, start planning a retirement strategy that takes the “what ifs” into account.
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