Inflation Surprise Fails to Dampen Stock Market rally

As the mega tech rally keeps dragging the equity Bull market along, our Federal Reserve seems to have misplaced the punch bowl while waiting for high inflation to kick the bucket. The glory days of 2020 and 2021 saw the stock market partying hard on the Fed’s zero-interest-rate cocktails and government handouts, but in 2022, the Central Bank turned into the party police by slapping a 5% cover charge on the free money and draining billions from the banking system. Fed head Jerome Powell has been playing a real-life game of financial Jenga, quietly yanking out $6 trillion in money market funds, with enough leftover cash to throw at stocks like confetti at a parade.

With inflation doing the limbo dance in the low 3s and the economy revving up, investors appetite was risk-hungry this past year. But keep those party hats in check, as Core Service inflation, sans the housing data anomalies, shot up like a rocket in January, catching complacent investors with their portfolios down. It seems the dream of a smooth economic landing might hit some turbulence, with higher prices and interest rates making a comeback. Higher inflation last month meant higher interest rates and risk of lower stock market multiples.

Along with the major Service sector surprise, we have a corroborating inflationary rebound in Healthcare.

The higher than expected CPI report was bolstered by an equally heated Producer Price Index (PPI) inflation report. This could be a one month fluke as longer term downward pressures from the year over year base effects should remain in the system into the summer months. However, the price data recently has erased hope for the Fed to begin rate cuts at its next meeting or two. Investors want weaker economic (inflation) data and of course higher equity valuations.

Rising interest rates usually spell trouble for investors, tightening credit and dimming prospects for both individuals and businesses. Tighter credit lowers investor sentiment, consumption and business earnings. Back in 2022, the Federal Reserve’s inflation-fighting rate hikes sent the stock market into a nosedive. Fast forward to 2023, and the consensus that rate hikes were coming to an end, coupled with an economy that outperformed expectations, breathed new life into stocks. Lately, investors are scratching their heads at how stocks are defying gravity in the face of hawkish lenders and 7% mortgage rates. The secret sauce? Strong economic data is part of the equation, but let’s not overlook the AI-fueled bull run led by Nvidia. Despite the 10 Year yield’s recent jump from 3.8% to 4.3%, the market’s narrow leaders are propelling stocks to record highs almost daily. Here’s to Nvidia for keeping the party going!”

Well, isn’t this just a chip off the old block! The arms race for AI and quantum computing dominance is like the Wild West of the tech world, with Nvidia leading the charge like a classic Western. Their parabolic production and order jump last Spring has brought a seemingly inexhaustible supply of capital to invest until the actual supply and competition for semiconductor chips begin to catch up with demand. As simple as it is, we doubt the market can witness much downside pain until order flow guidance from Nvidia slows down. Nvidia’s priced for perfection earnings report after the close on February 21st could provide some modest disappointment on guidance to create short term profit taking for the entire stock market. The other possibility is that they over-deliver higher than expected orders with even more amazing forward guidance. Up almost 50% year to date and over 600% in 17 months. Is there any altitude sickness for investors yet? As Nvidia goes, so goes the market. With NVDA’s stock soaring to dizzying heights, one can’t help but wonder if investors are starting to feel a bit lightheaded. As they say, what goes up must come down, but will Nvidia be the one to bring the market crashing back to reality? Only time will tell, but until then, hold onto your hats and enjoy the ride!

While Nvidia deserves its time in the spotlight, there’s more to keep the popcorn popping, rather than curbing your enthusiasm. Stock market earnings are on pace to accelerate in 2024 vs 2023. With public companies holding back on issuing new stock (less supply) in 2023 and gearing up for a stock buyback spree (more demand, less supply), the stage is set for further market magic.  In 2023, companies held back 140 billion from buying back their own stock compared to 2022, but gird yourself 1 trillion buyback bonanza this year. Get ready for more mergers, acquisitions, and a splash of Private Equity action as the year unfolds. And let’s not forget the slow dance of inflation and interest rates – if they keep heading south, Wall Street’s mood will be sky-high, paving the way for AI innovations and productivity gains to keep the engine humming. Oh, and in case you’ve been living in a fallout shelter, it’s an election year! Brace yourself for a 2024 re-election stimulus boost orechestrated back in 2022 and a flurry of economic moves from those in power. 

In the grand symphony of market dynamics, where the cacophony of macroeconomic fundamental trends overwhelm the sonata of tried and true technical analysis, we are at a juntcure where a “short-term” top looms near. New highs until about February 22nd have been part of our outline for traders, but despite near-term risk, the overall trend remains higher and corrections are viewed as buying opportunities. For traders we note that many publicized individual and institutional strategists are also expecting weakness through the end of February and a portion of March. Our strong contrarian nature makes us leery of calling for an overdue 5% or more correction here. When the herd of traders are levered to galloping in one market direction, the odds increase that any news trigger will send the herd scrambling, sending prices even higher.  Our composite indicator below indicates the swarm of investors are tired, yet not quite at extremes that prevent panicked gains. The seasonal pattern indicates the markets are vulnerable to negative news until mid to late March. Longer term investors should weather the squalls and stay the course and use any 5%+ pullbacks to add.

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