Is the S&P 500 psych too bullish?

There is quite a lot to be said for the constructive influence on equities of central bank accommodation. After all, in large measure the associated hunt for yield in what is an effective Zero Interest Rate Policy (ZIRP) environment has been more of a boon to equities than bonds. That is even though the Federal Reserve form of it was ostensibly designed to support government bond and mortgage backed securities prices and suppress yields.

With the renewed commitment to extensive low base rates from the Fed on Wednesday added to the more recent ECB rate cuts and stimulus program there is a significant assumption that central bank accommodation will be in place for a long time to come. Except for a rightfully more hawkish Bank of England, there are good economic reasons for the Fed, ECB, BoJ and even the RBA to remain accommodative. If things weaken a bit more in China, expect the PBoC to rejoin the party as well.

And yet, there are still some flies in the global economic ointment which might supersede the very friendly central bank influence for at least more of an equities correction than many expect. That is a pretty low bar, as most observers feel there isn’t much chance of any substantial correction now that the Fed has renewed its easy money commitment. Added to that is a sense the bears have finally psychologically capitulated after the lack of a more hawkish Fed tone at Wednesday’s press conference.

The problem for the bears is that it always takes more than one, and typically three, of the negative influences to become more prominent together prior to the equities taking notice. This was the case for the major 2011 correction, and even going back to the Spring 2010 first full correction after the major cyclical 2009 low. Back then we called it the Triple G correction: Goldman (Sachs problems), Gas (prices very high again) and Gulf (BP Deepwater Horizon oil spill.) And that may hold some lessons in the current environment. 

 

The ‘Triple F’ Factor

Just when almost all parties (even the vanquished bears) least expect it, might the equities be heading for a ‘Triple F’ selloff? That would be Food, Fuel and Foreign Affairs. Just to be clear, this all has to do with the disposable income of the United States and global consumer, and their confidence factor. Many of the equity market corrections both before and after the 2008-2009 financial and economic crises were based on waning end-user consumption. That is either for the reality, or even the psychology of the moment, and especially related to the ultimate conspicuous consumers in the United States.

The first of these factors has seen prices for all grain based Food (including meat and dairy) surge after higher grain prices and direct drought consequences sharply reduced farmers’ ability to raise livestock over the past couple of years. That major drought influence is also pushing up prices of fruits, vegetables, sugar, coffee, cocoa and other staples.  

While the Fed and other central banks’ core inflation measures ignore food and fuel as too volatile to allow in their assessment, we have always found that a bit benighted. There are indeed temporary spikes in some commodities which need to be ignored. But when there are significant reasons to believe that the pressures are going to be sustained, it is also foolish to not incorporate them into inflation readings.

We have always said that ‘core’ inflation is the real measure only for folks who don’t fuel their cars, never heat and cool their homes and stop eating. And with the major drought and geopolitical influences of late, headline inflation is more relevant than ‘core’ to a stressed consumer five years into a lackluster US and global economic recovery.

  

Testimony from Fed Chair Janet Yellen is tellin’: easy money here to stay:

Next Page: Fuel and Foreign Affairs

  

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