Inflation Concerns and Market Volatility
In recent months, the financial landscape has been marked by uncertainty and shifting expectations. One critical factor driving this volatility is the Federal Reserve’s (Fed) monetary policy decisions. Former U.S. Treasury Secretary Lawrence Summers has issued a warning that demands our attention: the possibility of a rate hike instead of the anticipated rate cuts.
The Fed’s Dilemma
The Fed has been grappling with the delicate balance between stimulating economic growth and controlling inflation. Historically, rate cuts have been a tool to boost economic activity during challenging times. However, the current environment presents a unique challenge of curbing inflation while stimulating economic growth.
Inflationary Pressures: The March consumer price index (CPI) revealed hotter-than-expected inflation figures. The CPI rose 3.5% in March 2024, compared to the previous year, or 0.3 percentage point compared to February 2024, according to the U.S. Bureau of Labor Statistics. This CPI reading exceeded the expectations of economists surveyed by Dow Jones who had expected a gain of 3.4% on a year-over-year level. These elevated inflation readings have raised concerns about the sustainability of price increases.
Shelter and energy costs drove the CPI increase. Shelter costs, which make up about one-third of the weighting in the CPI, were higher by 0.4% on the month and up 5.7% from a year ago, while energy rose 1.1% after climbing 2.3% in February. Expectations for shelter-related costs to decelerate through the year have been central to the Fed’s thesis that inflation will cool enough to allow for interest rate cuts.
Rate Cut Expectations: Initially, traders were betting on a quarter-point rate cut arriving in June 2024 and three rate cuts throughout the year. However, recent developments have shifted the odds dramatically. The market now reflects an 85% probability that the central bank will leave rates unchanged at its June 2024 meeting and a 35% probability in September 2024, according to CME Group calculations.
The CME Group provides a tool called the CME FedWatch Tool that analyzes probabilities of changes to the federal funds rate based on 30-Day Fed Funds futures pricing data. It helps traders and investors gauge market expectations regarding future interest rate moves by the Federal Reserve.
Why Inflation Matters for Investors
Stock Market Sensitivity: Stock prices have been closely tied to interest rate expectations. Investors had priced in multiple rate cuts for 2024, anticipating accommodative monetary policy. However, the reality of persistent inflation challenges this narrative. As inflation erodes purchasing power and affects corporate profits, stocks become more susceptible to losing value.
Market Reactions: The recent inflation surge has already impacted the stock market. A stronger-than-expected March 2024 job report initially rattled investors, leading to a small sell-off. However, the Dow Jones Industrial Average dropped over 420 points on April 10, 2024 in response to the inflation data, and lost an additional 600 points the week after. See the chart “Dow Jones Industrial Average” for details.
Following the release of March 2024 inflation data, which exceeded expectations, Treasury yields surged. The yield on the 10-year Treasury jumped back above 4.5%, reaching 4.548%. The yield on the 2-year Treasury also climbed significantly to nearly 5.0%, reaching 4.969%. One month earlier, the 10-year Treasury yield was 4.16% and the 2-year Treasury yield was 4.58%. These strong yield increases underscore doubts about the possibility of a near-term rate cut by the Fed.
The CBOE Volatility Index (VIX), often referred to as the “fear gauge,” measures market expectations of near-term volatility based on stock index option prices. In April 2024, the VIX has experienced a sharp increase. As of April 9, 2024, the day before the inflation report was published, the VIX stood at 14.98. Since then, it has risen to 19.23 on April 16, 2024, reflecting heightened uncertainty and nervousness in the financial markets, according to CBOE, publisher of the VIX. This surge in volatility aligns with the broader concerns about inflation and interest rate policy.
Prominent Voices on Inflation
Former U.S. Treasury Secretary Lawrence Summers suggests that the Fed might not have completed its final rate hike within the current economic cycle. He cautions that a June rate cut, given the present circumstances, could be “a dangerous and egregious error comparable to the errors the Fed was making in the summer of 2021.” During that time, policymakers refrained from raising rates despite expectations of transitory inflationary pressures. In addition, he said “You have to take seriously the possibility that the next rate move will be upwards rather than downwards.”
Federal Reserve Chair Jerome Powell stated on Tuesday, April 16, 2024 that the Fed might need to maintain higher interest rates for an extended period, contrary to earlier expectations. He cited a “lack of further progress” this year toward the 2% inflation target. Powell expressed concern that recent data did not boost confidence and suggested that achieving the desired level of confidence would likely take more time than anticipated. His remarks were delivered during a forum in Washington.
Federal Reserve Vice Chair Philip Jefferson suggested on Tuesday, April 16, 2024 that the Fed’s key rate may need to remain at its peak for a while to address persistently elevated inflation. He expects inflation to continue slowing throughout the year, signaling a reluctance to cut rates prematurely.
What Does it Mean for Investors?
The recent surge in inflation, coupled with shifting expectations regarding Fed’s Reserve policy, has prompted a reevaluation of investment strategies. With market uncertainties looming, investors can explore alternative options to mitigate risks.
One such avenue is first trust deed lending. Safeguard clients are taking a conservative approach to real estate investing by being lenders rather than landlords, with low loan-to-value ratios of 65% or under. This strategy eliminates all the potential headaches of being a landlord yet provides similar healthy returns associated with real estate investing.
Safeguard presents opportunities with competitive rates starting at 10%. By choosing to be a lender, investors position themselves favorably in a high-interest-rate environment where borrowers are competing and lenders win.
Our team at Safeguard is dedicated to helping investors maximize returns and minimize risk. Whether through a call or email, reach out to Safeguard today at 877-280-5771, and let's collaborate to ensure your money works hard for you.
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