Genetski: Uncertainty Reigns as the Fed Pumps Up the Economy

Rising prices and a very expansive monetary policy make the outlook for the economy uncertain, as stocks move erratically higher.

The Week That Was

As anyone who bought anything in the first month of the year already knew, consumer prices soared.

The January total reported consumer price index rose at close to an 8% annual rate. After subtracting food and energy, the rate was almost 7%. A Meyers Report proprietary survey of grocery items shows prices still surging in February.

Initial weekly unemployment claims in the first week in February were 223,000, down from 254,000 for the month of January. Claims have increased slightly after a low of 200,000 in December. An alternative measure of unemployment shows those receiving unemployment benefits continued to trend slightly lower in January.

Things to Come

Economic news this coming week includes: the Homebuilders’ Survey (for early February), January data on retail sales and manufacturing output.

If there is a surprise in any of these data, I expect it could be with the retail sales numbers. These data are often erratic and have increased at a much faster pace than personal incomes. Retail sales were down in December and could easily be down again in January. Even if they decline for a second month, it won’t mean much since these numbers are traditionally subject to large revisions.

Market Forces

Stocks moved erratically higher for the second consecutive week. The indexes closed yesterday with gains of ½% for the (S&P500 and Dow) to a high of 3% for the Russell 2,000 ETF.

Despite these gains, the overall market continues to struggle, with technical indicators remaining mostly negative. The S&P500 and the Dow are the only key indexes above their 50-day averages. Both have had trouble climbing over key resistance levels. The other major indexes are in bear market territory, well below their 200-day averages.

For the past year I have referred to bondholders as asleep. It should have been obvious the Fed didn’t know what it was doing. Bondholders bought what the Fed was selling. Recent inflation numbers have now made it so obvious, even the Fed now recognizes it didn’t know what it was doing.

Financial markets now place the odds of a ½% increase in the fed funds rate in March at 93%. By year-end, the odds favor the rate will be between 1¾% and 2%.

In spite of the recent spike in interest rates, current rates remain low. They are not enough to compensate bondholders for the loss in their purchasing power. Interest rates will have to eventually head still higher.

An update in my stock market model shows at yesterday’s close of 4500 the S&P500 is overvalued by 33%. With the prospects for higher inflation and interest rates, the risks in stocks have increased.

Amid all the negatives, monetary policy remains highly expansive. An expansive monetary policy tends to increase stock prices. Amid counteracting forces, the market’s direction remains highly uncertain.

Outlook

Economic Fundamentals: mixed

Stock Valuation: S&P 500 overvalued by 33 percent

Monetary Policy: very expansive