THE MARKET WAS FINALLY SPOOKED BY INFLATION! October 7, 2005.
By Sy Harding
All summer long Wall Street has been able to convince investors that inflation was not a problem on the grounds that 'core' inflation, that is with the cost of food and energy excluded, remained tame.
All summer long I've been warning that inflation was indeed a problem, and coupled with rising interest rates would affect consumer spending, the economy, and the stock market in time to have the market tumble to a low in the October-November time-frame.
Although it hasn't happened yet the market took a big step in that direction this week.
It wasn't so much the market's decline for the week, or that it has now been down three of the last four weeks. The market was also down three out of four weeks in August, only to bounce back again.
But this time the Dow, S&P 500, and Nasdaq have not only been down three out of four weeks, but broke below their August lows, and also broke below important technical support levels that had held firm in the August sell-off. For instance, all three indexes closed below their 20-week moving averages this week. In each of the previous short-tern market corrections since the rally began off last April's low the S&P 500's declines stopped exactly at the support at its 20-week moving average. That the support did not hold this time implies that something more than a short-term correction is underway. Intermediate-term momentum-reversal indicators had already turned negative a week ago.
It was interesting that inflation worries finally created fear in the market this week, a week when crude oil and gasoline prices declined significantly from their post-Rita peaks.
I suspect that was because the market now realizes the inflationary problem isn't just in the high cost of crude oil; that it has long since passed through to the overall economy. An increasing number of companies have warned in recent days that higher prices of raw materials, along with high energy costs, are forcing them to increase prices to their customers.
Major tire companies Goodyear, Bridgestone/Firestone, and Cooper announced price increases of five to eight percent effective this week due to shortages of synthetic rubber and carbon black. It was the third price hike this year for Goodyear. Clorox announced price increases of as much as 40% on almost half its products. Carpet-maker Mohawk Industries is raising its prices as much as 8%, due to rising raw material prices. Furniture-maker La-Z-Boy said it is increasing prices to its dealers. Rohm and Haas Company, the large manufacturer of chemicals and chemical coatings for a wide variety of products, announced price hikes. The large Taiwanese microprocessor chipset maker, SiS, is raising its prices by as much as 15 %, and three of its competitors are expected to make similar announcements. FedEx announced price increases. Well, you get the picture. There is hardly an industry that is not complaining about higher costs, most citing raw materials, energy, and transportation costs.
The market wobbled several times this week after three individual Fed governors provided unusual public warnings about how concerned the Fed is about inflation. Richard Fisher, president of the Fed's Dallas region said on Thursday that the Fed cannot "let the inflation virus infect the blood supply and poison the [financial] system."
I'm thinking those statements might be intended to prepare markets for even more aggressiveness by the Fed; perhaps an interim rate hike without waiting for its November FOMC meeting; or a 1/2% hike in November rather than another of the 1/4% hikes its been doling out "at a measured pace". Those small rate hikes, eleven since a year ago June, have clearly not done their job, leaving the Fed significantly behind the curve.
Stuart Schweitzer, global investment strategist at the money-management division of J.P. Morgan Chase, told the Wall Street Journal this week that, "I think this sell-off could have legs, but I don't think it is the beginning of another bear market." The Journal reported Schweitzer "is concerned the Fed will have to inflict pain in order to prevent inflation - enough pain to make companies worry that price increases will cost them business."
Yet unless corporations pass their increased costs along to customers, their earnings will decline. A problem for the stock market either way.
The market was so nervous this week that even some market bulls wondered if the year-end rally they have been expecting will materialize.
I believe that it will, but not without some angst first. As I have all summer, I'm still expecting a significant market sell-off to a low in the October/November time-frame, but with that sell-off to be followed by a significant rally to at least the end of the year.
It's not a bad thing for the market to have a correction now and then. They correct the over-pricing and investor complacency that builds up, creating good buying opportunities from which the market can rise in a sustained manner. |
