Switzer on Saturday

Be careful: don’t overreact to inflation fears

Founder and Publisher of the Switzer Report
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After decades of waking up to Wall Street news and then trying to make sense out of the world’s most important stock markets centred in New York for what might happen on our ASX, I have to say the overnight positivity for all three US key indexes completely surprised me!

Mind you, my intended story for this morning was to warn you not to overreact to this week’s annoying inflation indicators in the US (and here) that rattled stock markets in the Big Apple and locally. This news wasn’t helped by attention-seeking economists who are recommending the likes of our Reserve Bank to make the next interest rate movement up!

I say “attention-seeking” because these are big calls not based on existing data but more on some short-term statistics and their own speculation about what they expect in coming months.

The RBA shouldn’t be pressured by these outliers. Calls for a May interest rate rise defy good economic sense, the history of economic data drops and this fact that Shane Oliver points out: “The average mortgage rate on outstanding mortgages in the US is up just 0.5 percentage points since the start of rate hikes whereas in Australia the rise has been around 3.2 percentage points.” That’s because most of us are on variable rate home loans, while in the US, 95% of loans are fixed for terms like 30 years!

Interestingly, because of the pandemic and the low interest rates it brought, 40% of our home loans were fixed, when the number was usually around 18%. However, these were 3-year fixed or less terms, so most Aussie home loan borrowers are now on high variable rate loans and suffering. This hip pocket pain will show up in economic data.

The RBA will wait at least two or three months before it swings from an easing bias to a tightening bias, which makes perfect sense, given the lags with monetary policy.

But what helped turn around Thursday’s negativity for US stocks that carried over to the local market? That negativity was driven by a weaker-than-expected growth number. US GDP grew by 1.6% on an annualized basis in the first quarter, well below expectations of 2.4% and far short of the 3.4% increase in the final quarter of 2023.

That should have been a great sign for lower inflation, but the GDP report also showed consumer prices rising in the quarter. Also, statistics experts saw one-off explanations for the weaker growth number and so they chose to focus on inflation concerns.

So, why was everything forgiven and forgotten one day on the New York Stocks Exchange and the Nasdaq?

First, some big-name tech stocks reported better than expected, helping the Nasdaq index spike over 2% before the close. Alphabet’s report saw the stock surge over 10%, while Microsoft’s result was 2.5% higher. The results were seen as a function of the dividends from their investments in Artificial Intelligence!

Meanwhile, the Fed’s preferred measure of inflation did come in higher than expected but this time US market influencers weren’t rattled by the small miss, unlike local worrywarts.

This is how markets.businessinsider.com reported the data: “Personal consumption expenditures data showed prices rose more than expected last month. The Federal Reserve’s preferred measure of inflation showed an uptick of 2.8% versus estimates of 2.7%”.

The report added: “The market seemed little fazed by the report, with the data mostly in line with previous prints showing inflation hovering above the central bank’s 2% target.”

This reaction to the numbers led the president and CIO of US-based Bellwether Wealth Clark Bellin to conclude: “Friday’s PCE print keeps rate cuts on the table for 2024, but we expect any rate cuts to come towards the end of the year, which will allow the Fed to analyse a few more inflation reports to ensure that the re-acceleration of inflation over the past few months was indeed a temporary uptick and not something more sustainable”.

This is an entirely sensible way to look at economic statistics. I hope our RBA maintains the same sensible view.

To the local story and inflation worries from US GDP figures and our own CPI results for the March quarter (that led to calls for interest rate rises from a minority of economists) saw rising bond yields hurt stock prices.

The S&P/ASX 200 index lost 66.2 points for the week (or 0.87%) and that was after a 107-point loss on Friday after that inflation reading in the US, which was ignored one day later.

Monday looks set to be a positive day for our market, with the SFE SPI 200 Index suggesting we’ll open 26 points up at the start of trade. We are such Wall Street sycophants, but I guess it is for money reasons! “The biggest drag on the index was mining heavyweight BHP. It fell 4.6 per cent to $43.15, after making a $60 billion takeover bid for London-listed miner Anglo American. Later, Anglo American rejected the bid and labelled it ‘opportunistic’ in significantly undervaluing the miner,” the AFR’s Tom Richardson reported. “Gold giant Newmont soared 13.9 per cent to $65.70 after its quarterly profit beat expectations on the back of gold prices rallying over 2024.”

Resmed put on a huge 9.5% (or $2.76) to finish at $31.50 after a better-than-expected quarterly report and a very positive long-term outlook, despite all this talk about magic diet drugs hurting their business. Also, Super Retail Group lost 3.4% to $14.37 following concerns over a $50 million bullying claim.

Doing well on Friday was Fortescue, up 3.35% after its CEO Dino Otranto remained bullish on China, saying renewables are helping diversify its steel demand. Gold miner Evolution Mining and lithium as well as iron ore miner Mineral Resources rose over 2% on Friday.On the losing side, Seek lost 3.69% on Friday on no apparent bad news, while Brambles had a shocker, down 8.82% for the week to $14.26. No standout news is linked to the fall, but interestingly, Morningstar still likes the company, describing it as having a wide moat!I’ll pursue that with Michael Gable on Monday’s TV show.

What I liked

  1. ANZ Bank’s economics team is still calling the Reserve Bank to cut interest rates in November. It says to look through the hotter-than-expected inflation data earlier this week. “The message we are inclined to take from the CPI is: be patient. That doesn’t just apply to the economic data flow, but it also applies to the easing cycle,” ANZ said. “It is likely to start late this year (at the earliest) and will be very mild. Our forecasts remain a November start, with just 75 basis points of easing in total over 2024 and 2025.” (AFR.com)
  2. US March quarter GDP growth slowed more than expected to a 1.6% annualised pace, which should be good for inflation, but inflation rose based on the PCE reading. (See below)
  3. Shane Oliver’s take on our inflation: “The good news is that annual Australian inflation is continuing to fall being down from a high in December quarter 2022 of 7.8% year on year to 3.6% in the March quarter, and it’s in line with the range of other major countries, albeit at the top end”.
  4. 43% of S&P 500 companies have reported so far and the good news is that 81.2% have beaten expectations, against a norm of 76%. Earnings growth expectations have increased to 5.3% year-on-year, from 4.1% two weeks ago. Earnings growth is likely to end up around 8% year-on-year for the quarter.
  5. The University of Michigan’s consumer sentiment index fell just 2.2 points to 77.2 in April, also coming in slightly below a Dow Jones estimate of 77.9. This isn’t a sign of a too-fast growing US, with real inflation concerns.
  6. Along with stronger Eurozone business conditions PMIs in April, the German IFO business climate index also improved further.
  7. Australian business conditions PMIs for April showed a slight further improvement driven by manufacturing with services remaining solid.

What I didn’t like

  1. The headline CPI rose by a stronger‑than‑expected 1% for the March quarter but the annual rate eased to 3.6% from 4.1%.
  2. The Personal Consumption Expenditures (PCE) Price Index, rose to 2.7% on a yearly basis in March from 2.5% in February. This reading came in above the market expectation of 2.6%. This wasn’t all that bad with the core PCE Price Index, which excludes volatile food and energy prices, holding steady at 2.8% on a yearly basis, surpassing analysts’ estimate of 2.6%. On a monthly basis, the PCE Price Index and the core PCE Price Index both rose 0.3%.

Inflation overreacting could be costly…

We’re in a crucial three-month period for stocks where the news on inflation will help or hurt stock prices. Australia is more likely to show an economic slowdown, which then should lower inflation, but the Yanks might struggle because not enough home loan borrowers have been smashed by their 11 rate rises. Working to help stocks has been very good company reporting, which hopefully will be sustained until interest rates start coming down.

Given what I’ve seen from markets and from economic statistics since the pandemic, I must admit there are more curve balls out there (for a market-caller like yours truly) than I’ve seen in a long, long time!

 

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15/4/2024 – 19/4/2024

ASIC releases data daily on the major short positions in the market. These are the stocks with the highest proportion of their ordinary shares that have been sold short, which could suggest investors are expecting the price to come down. The table shows how this has changed compared to the week before 

 

Chart of the Week

I hate this chart created by alarmists who are pedalling that we should see interest rate rises. They could be right but I think they will be wrong and so do a lot of other economists.

 

Quote of the Week

The Yanks got a slower economic growth number than was expected but inflation looked like it was not following the downward script.

“The Fed will be more concerned by inflation running above their target in the first quarter than slower growth,” said Bill Adams, chief economist at Comerica Bank. “The Fed is likely to slow the pace of their balance sheet runoffs at one of the next few meetings, but wait until September to start reducing interest rates.”

 

Disclaimer

Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.