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Higher (lower) inflation expectations have remained closely bound
with higher (lower) stock prices [of late but] this odd connection won’t last forever…[but] until that changes, it’s best to go with the flow….[This article explains] the new abnormal. Words: 266
So writes James Picerno (www.capitalspectator.com) in edited excerpts from his original article* entitled Mr. Market’s Abnormal Relations – An Update.
This article is presented compliments of www.FinancialArticleSummariesToday.com (A site for sore eyes and inquisitive minds) and www.munKNEE.com (Your Key to Making Money!) and may have been edited ([ ]), abridged (…) and/or reformatted (some sub-titles and bold/italics emphases) for the sake of clarity and brevity to ensure a fast and easy read. Please note that this paragraph must be included in any article re-posting to avoid copyright infringement.
Picerno goes on to say in further edited excerpts:
The new abnormal is the positive connection between the stock market and the implied inflation forecast via the yield spread between the 10-year Treasury note and its inflation-indexed counterpart.
As the chart below shows, the S&P 500 has been rising so far in 2013, echoing a similar advance in inflation expectations.
What’s behind this connection? The short answer: fear of disinflation/deflation. David Glasner lays out a broader, deeper economic explanation in a 2011 paper titled “The Fisher Effect Under Deflationary Expectations.”
The main takeaway for investors: Mr. Market likes higher inflation these days, but he becomes anxious when the outlook for inflation falls. That’s a sign that the state of macro is, shall we say, off its game. Until that changes, it’s best to go with the flow. As such, keep your eye on the market’s estimate of future inflation for a clue about the future path of stock prices. In particular, a change in the trend for inflation expectations is likely to bring a similar reversal in equity prices.
On that note, expected inflation is now roughly at levels that prevailed before the financial crisis struck in September 2008 — around 2.6%. Inflation has come full circle since the global economy had a near-death experience.
The questions before the house: Can inflation expectations break through this ceiling to higher ground? If so, will the stock market continue to view higher inflation as a positive?
Editor’s Note: The author’s views and conclusions are unaltered and no personal comments have been included to maintain the integrity of the original article. Furthermore, the views, conclusions and any recommendations offered in this article are not to be construed as an endorsement of such by the editor.
*http://www.capitalspectator.com/archives/2013/02/mr_markets_abno.html#more
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