Are the Worst of the Inflation Issues Behind Us?

WISDOMTREE- Weekly commentary from Professor Jeremy J. Siegel (10/31/2022) :

There has been a continued rotation away from the big tech stocks that worked for the last decade towards dividend paying value stocks. With the exception of Apple, which is holding up much better than its counterparts, the tech stalwarts came under pressure as they reported earnings last week.

I believe this rotation towards value stocks will likely continue, as big tech valuations still could face more pressure. When a stock sells at very premium valuation multiples, if there are any questions on the sustainability of above market growth rates, compression happens fast and that is occurring now.

Also spurring good news for the markets last week was inflation data that matched expectations. As investors fear hot inflation data that causes the Fed to overly tighten policy, just matching economist forecasts is viewed as good news. The Employment Cost Index came in at 1.2% and the Core PCE data deflator came in as expected. The University of Michigan Consumer Sentiment Index 1-year ahead inflation expectations ticked down from preliminary estimates, all suggesting inflation indicators are not getting worse.

There is a growing sense in the markets that the worst of the inflation issues are behind us—whether or not the Federal Reserve wants to claim success.

The Fed needs to look at pending home sales, which are down 30% year over year and down 10% just for the month of September. Home prices had a tremendous stretch of strong gains—that is clearly over. Reverberations from a collapse in housing activity will be felt in 2023.

This week is filled with economic data. We have JOLTS job openings data. Last month the job openings collapsed by about 1 million positions and expectations are for a 400,000 drop. The ISM Manufacturing Index also comes in on the 1st of November. Then we have the Fed meeting on Wednesday.

Clearly the Fed will hike 75 basis points this week. But the important news will the Fed statement explaining policy. If they include comments that battle against inflation is being won and the tightening cycle will reach peak rates soon I expect a very strong rally. If not, there could be a sharp selloff.

I hope reporters ask Powell some tough questions—most importantly on the real estate lag in official CPI versus all the real time housing activity data that shows prices are falling and should fall more. Powell is holding a line that money supply is unrelated to inflation—that is based on some faulty modeling that reporters need to hold him accountable for. We are now in the midst of the sharpest slowdown in 6 month money supply growth over last half century—and that represents a significant slowdown and more disinflation building up in the system. Will the Fed recognize this in future modeling?

On Friday we have jobs reports. We have not seen slowdowns in jobless claims yet, but perhaps the biggest firings will come in tech sector, unlike past cycles where industrial and other economically cyclical sectors saw the biggest declines. For now, as we get thru earnings, all eyes turn to the Fed this week to dictate direction.