There is a dividing line between supporters of the so-called
Core rate of inflation and those economists I taken to referring as “reality
based.” Perhaps the distinction is nothing more than people merely “talking
their books.” One’s views on inflation are likely to be affected by your
particular portfolio holdings (or those of your firm and/or its clients). Long
only equity funds have been begging vociferously for the Fed to stop
tightening; Market Neutral funds (long/short as well as Arb or Option funds)
don’t seem to care much either way.
Then there’s fixed income players. PIMco’s Bill Gross,
the world’s largest Bond portfolio manager, is the 2nd person to suggest that
rate cuts – not hikes, but cuts – are likely to occur in 2006. Given the
vulnerability of Fixed Income to even more rate hikes, one can understand his
perspective. Incidentally, we were actually the first to suggest 2006 rate cuts
- back in June of this year in the WSJ.
Then, there are the political economists. They end up seeing
the Economy through the prism of their political views. Instead of talking
their positions, they talk the books of those they support politically.
Which brings us to the Bernanke announcement. There is no
doubt he is eminently qualified; You know a nominee is a "slamdunk"
to get through the Senate Confirmation Process when political cartoonists mock
the President for nominating someone who’s too qualified. The only critique against Bernanke is that he is not Hawkish enough against
And that belief is the most likely explanation for Monday’s
moon-shot. Was yesterday’s celebratory stock launch a rational assessment of
the nominee as qualified? Or was it more likely that the market likes the idea
of less vigilance against inflation? As noted above, those who have been “long
and wrong” have made the basis of their vigorous Fed lobbying the transparently
false claim there is no inflation ex-Energy, despite the fact that nearly
everything we purchase has gone higher (even Broadway!). These souls have been begging the Fed to end their
misery by declaring “Mission Accomplished” on inflation; With the war now won,
they are hoping the armistice will consist of “no more rate hikes.” As our
favorite commentator observed, this also “bespeaks the market’s relentless
demand for instant gratification.”
The Majority doesn’t always rule.
As the table at top shows, all the major indices were up at
least 1.6 and as much as 2.2%. The fly in the ointment has been the modest
volume – its slipped 4 straight days. On Monday, we traded 213million less shares
than Friday. That suggests modest conviction.
This “air pocket” is hardly what
the Bulls need to support a lasting move higher.
Here’s a fascinating look at "The Maestro" via the lens of the WSJ, circa 1987:
"A specter from the past has been haunting the stock market lately, and,
as with most specters, the question is whether this one is mostly real
or mostly imaginary.
The specter is inflation, and until recently, many investors thought it
was dead and gone. Lately, if you believe the Federal Reserve, it isn’t
exactly ba-a-a-a-ck, but it is lurking. The Fed’s fear of inflation,
together with its clear intention to keep raising U.S. short-term
interest rates to keep inflation in check, is the main thing that has
prevented the much-awaited fourth-quarter stock rally from commencing . . .
A few weeks ago, I gave Professor James Hamilton grief over his 45 year chart of the 12 month change in CPI (1960 – 2005). The very long chart, IMHO, makes inflation look more modest versus its long history than say a 5 year chart would.
Indeed, the impact of any longer term charts is that they make major events look like ripples; You can barely see the 1987 crash on a long SPX chart, and even 9/11 is hard to spot on a 10 year Nasdaq chart.
Today’s WSJ also uses a long term chart — 35 years of CPI and Core CPI. It presents a case that the core underreports inflation. Note that even during the late 1970s peak of CPI, the Core rate tracked the overall index; In 1972-74, however, the Core lagged the CPI appreciably.
That lag is very analogous to the present BLS reporting, and in my opinion, why the Fed is fighting inflation so aggressively.
Note: I modified the WSJ chart, zooming in on the two periods:<spacer>
click for larger chart
Chart courtesy of WSJ
The entire article is worth reading; I have more excerpts, and the original chart, after the jump.
Specter of Inflation Haunts Dow
While Waiting for Fed’s Fears To Subside, Investors Pull Back, Imperiling an Anticipated Rally
THE WALL STREET JOURNAL, October 24, 2005