The Cure

September 28, 2022

 

My goodness; stocks are taking a terrible beating these days.  From the way the market is behaving, one might think that some of the world’s largest and most profitable companies are suddenly becoming dramatically less valuable.  Are they all laying off workers, slashing prices, closing factories and declaring imminent bankruptcy?

 

If this is sending you to anxiously scan the headlines, don’t bother; none of that is happening.  Stock prices have never been a precise indicator of what companies are worth.  They are a very good indicator of what people are willing to pay for their shares, and right now there seems to be more sellers than buyers.

 

Why?  The reasons for bear markets are seldom rational—which, of course, is why bear markets end and stocks return to (and always, in the past, have surpassed) their original highs.  What’s happening right now is not unlike what happens when one of our children is diagnosed with an illness, and the remedy is a daily dose of some awful-tasting medicine.  The illness, in this case, is inflation, which absolutely has to be cured if we are to experience a healthy economic life.  Few things are worse than having the money you’ve saved up deteriorate in value at double-digit rates, which is precisely what has been happening this year.

 

The cure, which any child will tell you can sometimes be more unpleasant than the illness itself, is the U.S. Federal Reserve raising interest rates, which is its way of reducing the amount of cash sloshing around in the economy.  Rising consumer prices, just like rising stock prices, come about when there are more buyers than sellers.  Reducing the available cash reduces the number of buyers in relation to sellers (ironically, both in the consumer marketplace and on Wall Street), and finally slows down the inflation rate to manageable levels. 

 

We can already see how this works in the housing market, where, just a few short months ago, multiple would-be buyers were bidding against each other to pay more than the asking prices.  As mortgage rates have risen, the frenzy has completely dissipated.  The process takes longer in the consumer marketplace at large, but you can bet it’s working behind the scenes.

 

Doesn’t less spending mean less economic activity?  Doesn’t that lead to a recession?  The answers, of course, are yes and maybe.  But at this point, a recession might not be all bad for the economy.  Recessions act like a cleansing mechanism, exposing/eliminating waste and inefficiency, ultimately creating a healthier economy when we come out the other end.

 

So right now we’re taking our medicine, and boy does it taste awful.  We are also, collectively, suffering an economic illness.  Anybody who has come down with a bug and taken medicine to cure it knows that the former unpleasantness doesn’t last forever, and therefore neither does the latter.

 

Sincerely,

 

Edward J. Kohlhepp, Jr., CFP®, MBA
President 

Edward J. Kohlhepp, CFP®, ChFC, CLU, CPC

Founder & CEO

 

 

Source:

 

https://www.nytimes.com/2022/05/14/business/inflation-interest-rates.html

This material was prepared by BobVeres.com and does not necessarily represent the views of the presenting party, nor their affiliates. This information has been derived from sources believed to be accurate. Please note - investing involves risk, and past performance is no guarantee of future results. The publisher is not engaged in rendering legal, accounting or other professional services. If assistance is needed, the reader is advised to engage the services of a competent professional. This information should not be construed as investment, tax or legal advice and may not be relied on for the purpose of avoiding any Federal tax penalty. This is neither a solicitation nor recommendation to purchase or sell any investment or insurance product or service, and should not be relied upon as such. All indices are unmanaged and are not illustrative of any particular investment.

 

 

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No Fed to the Rescue

September 16, 2022

 

With two consecutive quarters of negative GDP growth, high inflation and markets that have persistently delivered bearish returns, the hope was that the U.S. Federal Reserve was busily looking for a way to execute a ‘soft landing’—meaning, basically, a return to modest economic growth, higher market returns and lower inflation.  It now seems clear that that is not the Fed’s plan.

 

In a recent speech in Jackson Hole, WY, Fed Chair Jerome Powell announced that he will do whatever it takes, pretty much to the exclusion of economic growth and better market returns, to drive inflation down to the 1.8% annual goal that has been recent Fed policy.  He said, bluntly, that “reducing inflation is likely to require a sustained period of below-trend growth.”  Translated, that means higher short-term bond rates and an indifferent attitude toward more economic pain.

 

The speech even seemed to be attacking the nation’s historically low 3.5% unemployment rate, the lone bright spot among a lot of otherwise grim economic statistics.  Powell surprised many economists by asserting that, in his view, the labor market was “clearly out of balance” because the demand for workers exceeds supply. 

 

Overall, the speech seemed to hint at another jumbo 75 basis point increase in the Fed Funds Rate later this month.  If (when) that happens, it will grab headlines, but it might not be the most significant growth-slowing measure the Fed will be taking.  The U.S. central bank is also accelerating the process of selling off the Treasury and mortgage bonds on its balance sheet, doubling the monthly sales from $47.5 billion to $95 billion.  It’s important to note that when the Fed was buying these bonds, the so-called QE (quantitative easing) buoyed the stock market.  The opposite, called quantitative tightening (QT to some), might have the opposite effect.

 

Most of us know that the economy will eventually recover from its current doldrums, and the Fed’s current policy will ease up as inflation declines.  What we’re seeing now is the inevitable ‘pay the piper’ moment where the bill comes due from the enormous (and, of course, unsustainable) stimulus that the Fed injected into the economy to end the Great Recession and, not so long afterwards, to pull the country out of the Covid-driven downturn.  The hope now is that it won’t be long before the Fed decides that the piper is paid off, and once again prioritizes growth and profitability in the economy.

 

Sincerely,

Edward J. Kohlhepp, Jr., CFP®, MBA
President 

Edward J. Kohlhepp, CFP®, ChFC, CLU, CPC

Founder & CEO

 

 

Sources:

https://www.advisorperspectives.com/articles/2022/08/31/powell-abandons-soft-landing-goal-as-he-seeks-growth-recession

https://www.advisorperspectives.com/articles/2022/08/31/the-fed-is-about-to-go-full-throttle-on-qt-fear-not

This material was prepared by BobVeres.com and does not necessarily represent the views of the presenting party, nor their affiliates. This information has been derived from sources believed to be accurate. Please note - investing involves risk, and past performance is no guarantee of future results. The publisher is not engaged in rendering legal, accounting or other professional services. If assistance is needed, the reader is advised to engage the services of a competent professional. This information should not be construed as investment, tax or legal advice and may not be relied on for the purpose of avoiding any Federal tax penalty. This is neither a solicitation nor recommendation to purchase or sell any investment or insurance product or service, and should not be relied upon as such. All indices are unmanaged and are not illustrative of any particular investment.

 

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NOT-Transitory Inflation

July 15, 2022

 

For much of last year, the economists at the U.S. Federal Reserve Board confidently told the public that the rampant inflation we were experiencing in the U.S. was ‘transitory.’ 

They were wrong, and increasingly so as time goes on.  This won’t surprise anybody who has been shopping lately, but economists were shocked to discover that the inflation rate rose 9.1% annualized in the month of June.  You would have to go back to 1981 to find a higher rate.  And the usual culprits of the war in Ukraine—food and energy prices—were not the only reason for the cost of living increase.  If you took out those two parts of the inflation calculation, the rate was still 5.9% overall.  The Federal Reserve’s ‘target’ is 2%.

So far, the U.S. Consumer Price Index measure of inflation is running around 8.6%—that is, it costs roughly 8.6% more to fund a normal lifestyle today than it did at this time last year.   This is part of an international trend; the UK is looking at 11% overall price increases, and the Eurozone is experiencing an 8.6% inflation rate.  South Korea’s 6% annual inflation rate is the highest in 24 years, and even Japan, which has flirted with deflation for the past 30 years, is seeing prices rise 2.5%.

How long will this last?  Nobody knows.  The Fed seems committed to driving U.S. inflation down with a series of aggressive interest rate hikes, but with prices rising everywhere else, one wonders how effective this will be.  But perhaps we can take comfort that our cost of living increases are markedly lower than what people are experiencing in Turkey (78% year-over-year), Argentina (60.7%) and Sri Lanka (54.6%).

We hope that you and your family are safe and well. 

Sincerely,

Edward J. Kohlhepp, Jr., CFP®, MBA
President 

Edward J. Kohlhepp, CFP®, ChFC, CLU, CPC

Founder & CEO

 

Sources:

https://www.nytimes.com/live/2022/07/13/business/cpi-report-inflation

https://fortune.com/2022/07/09/inflation-rates-around-the-world/

This material was prepared by BobVeres.com and does not necessarily represent the views of the presenting party, nor their affiliates. This information has been derived from sources believed to be accurate. Please note - investing involves risk, and past performance is no guarantee of future results. The publisher is not engaged in rendering legal, accounting or other professional services. If assistance is needed, the reader is advised to engage the services of a competent professional. This information should not be construed as investment, tax or legal advice and may not be relied on for the purpose of avoiding any Federal tax penalty. This is neither a solicitation nor recommendation to purchase or sell any investment or insurance product or service, and should not be relied upon as such. All indices are unmanaged and are not illustrative of any particular investment.

 

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The Fed and the Bear

June 21, 2022

 

By now, you know that the U.S. Federal Reserve Board raised the so-called Fed Funds rate by three quarters of a percent—the largest increase since 1994.  You may also have heard that the size of the increase took everybody by surprise—a list that includes economists, pundits, journalists and professional investors.  The news drove the markets, already teetering on the edge, into bear market territory—defined as a 20% drop from previous highs.

 

The stated reason for the rate increase is to squeeze inflation out of the economy.  The logic is somewhat complicated, but the simple explanation is that inflation occurs when too much money chases too few goods.  Raising rates will make it more expensive to borrow, diminishing purchasing power on credit, which could (eventually) result in less borrowing, which could (eventually) slow down consumer spending.

 

But of course, consumer spending is a huge component of economic growth, so less spending will slow down the entire economy—at a time when it has already recorded a full quarter of negative growth.  And by making borrowing more expensive, the central bank is also reining in corporate spending, which is another contributor to economic growth.  In fact, some economists believe that the economy was running ‘hot’ for the past decade, because companies could fund their operations with cheap money, and unprofitable companies could stay afloat because they could always borrow enough to get by.  The almost-free money allowed ‘distressed’ companies to rack up $49 billion in obligations that might need to be structured or face default.

 

If you look at the bigger picture, the American economy has experienced something quite extraordinary: more than four decades of falling interest rates, until they finally fell down to zero (short term) or near zero (longer-term) and had no more room to fall.  The Fed action has built on a reversal of that trend, sending mortgage rates to their highest level in nearly 14 years. 

 

If you want to second-guess the Fed economists with their Ph.Ds, you might wonder whether curbing inflation is worth the collateral damage of negative economic growth, diminished consumer spending and reeling investment markets where confidence in the future is shaken.  Their answer is likely to be that sooner or later they had to take away the punch bowl that led to the economic equivalent of drunken excesses—the stock market boom, meme stocks, special purpose acquisition companies, soaring housing prices, the alarming rise in the cost of living.  They might have been more gentle about it, but we all know that economic booms eventually lead to busts, which weed out unprofitable or poorly-run companies and ultimately deliver a healthier economy and, for investors, provide opportunities to buy stocks at a discount. 

 

The Fed has challenged all of us, whether we run companies or manage our monthly budgets, to endure a painful transition that was probably inevitable, and take our medicine all at once rather than gradually over a longer period of time.  Yes, the medicine tastes terrible right now.  Let’s hope it provides the cure that the U.S. central bank is hoping for, and that this will lead us into the next economic expansion and a new bull market.

We hope that you and your family are safe and well. 

 

Sincerely,

 

Edward J. Kohlhepp, Jr., CFP®, MBA
President 

 

Edward J. Kohlhepp, CFP®, ChFC, CLU, CPC

Founder & CEO

 

 

Sources:

https://www.washingtonpost.com/business/2022/06/19/fed-rates-economy-markets/

https://www.nytimes.com/2022/05/14/business/inflation-interest-rates.html

This material was prepared by BobVeres.com and does not necessarily represent the views of the presenting party, nor their affiliates. This information has been derived from sources believed to be accurate. Please note - investing involves risk, and past performance is no guarantee of future results. The publisher is not engaged in rendering legal, accounting or other professional services. If assistance is needed, the reader is advised to engage the services of a competent professional. This information should not be construed as investment, tax or legal advice and may not be relied on for the purpose of avoiding any Federal tax penalty. This is neither a solicitation nor recommendation to purchase or sell any investment or insurance product or service, and should not be relied upon as such. All indices are unmanaged and are not illustrative of any particular investment.

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Perspective - Stocks are Fairly Valued

 
 

 

June 16, 2022

 

In an effort to keep you informed about the current market and economic environment, we are sharing this short video from Brian Wesbury. Brian is the Chief Economist of First Trust Portfolios. First Trust is one of our strategic partners that many of you are familiar with.

We hope this seven minute video is timely and gives you some context around what is happening in the market and the economy.

Click here to watch the latest Wesbury 101: Stocks are Fairly Valued

 

 

Sincerely,

 

Edward J. Kohlhepp, Jr., CFP®, MBA

President

 

Edward J. Kohlhepp, CFP®, ChFC, CLU, CPC, MSPA

Founder & CEO

 

 

Please contact us whenever there are any changes to your financial situation, personal situation or investment objectives. 

 
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Kohlhepp Investment Advisors, Ltd.
3655 Route 202, Suite 100
Doylestown, PA 18902
Phone: 215-340-5777
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