by Justin J. Long CFP® on May 15, 2021 12:00:00 AM
This week we saw a return of volatility due to the inflationary pressures we discussed last week in our quarterly market update. Some of those fears subsided as the market began to recover on Thursday and Friday, from the brutal start to the week.
After being dormant for more than a decade, fast-rising inflation returned last month and, along with it, so did market volatility. The S&P 500 pulled back about 4% from the early May record high before rebounding some later in the week, with weakness concentrated in technology and high-growth stocks. The catalyst for the pullback was the release of the April Consumer Price Index (CPI) last Wednesday, which rose 4.2% from a year ago and 0.8% from March. The directional change in prices was hardly a surprise to economists and investors, but the magnitude of the increase was well above expectations.
Excluding food and energy, the so-called core index rose 0.9% from March, the biggest one-month increase since 1981, and three times more than analyst estimates1. As alarming as this sounds, we believe there are unique pandemic-related factors that explain the spike in prices, with the risk of runaway inflation remaining a low probability event, in our view.
Key takeaways
- Supply shortages and a reopening surge in demand are pushing prices higher. The current imbalances between supply and demand reflect pandemic distortions and thus are likely to prove temporary.
- We are closely watching consumer inflation expectations and wage growth to gauge whether price pressures will persist beyond this summer.
- High inflation readings over the coming months could spark volatility but won't derail the bull market, in our view. Faster economic growth and higher inflation than experienced over the last decade can benefit cyclical sectors and value-style investments, while exerting upward pressure on long-term rates.
Below we offer additional perspective on the key questions raised by last week's inflation data.
Source 1: Bloomberg, Bureau of Labor Statistics
The graphs shows the month-over-month change in the consumer price index, with price gains accelerating this year.
The stock market finished the week in negative territory, but it could have been a lot worse after hot inflation data upset the market mid-week. The Nasdaq Composite (-2.3%) and Russell 2000 (-2.1%) were this week's losers with losses over 2.0% while the S&P 500 (-1.4%) and Dow Jones Industrial Average (-1.1%) declined closer to 1%.
Through the first three sessions of the week, the Dow was down 3.4%, the S&P 500 was down 4.0%, the Nasdaq was down 5.2%, and the Russell 2000 was down 6.0%. Over the next two days, the Dow gained 2.4%, the Nasdaq gained 3.0%, the S&P 500 gained 2.7%, and the Russell 2000 gained 4.2%.
The horrible start was attributed to negative momentum in the growth stocks, rotational factors, and a noticeably hot Consumer Price Index (CPI) report on Wednesday. The m/m changes in consumer prices exceeded expectations, and when looking at the last six months to exclude easy base effect comparisons, total CPI was running at an annualized pace of 5.0%.
Investors used the weakness as an opportunity to buy the dip with a little help from several factors:
- A retracement in long-term interest rates, signaling that the Treasury market wasn't concerned about inflation even after receiving additional hot inflation data apart from the CPI report.
- Apple (AAPL) reclaiming its 200-day moving average (123.28) and the S&P 500 respecting its 50-day moving average (4064).
- The CDC saying fully vaccinated people can engage in most activities without masks.
- A view that the market was oversold on a short-term basis and was likely due for a bounce.
Eight of the 11 S&P 500 sectors still ended in negative territory, though, including the consumer discretionary (-3.7%), information technology (-2.2%), and communication services (-2.0%) sectors amid weakness in their mega-cap components. The consumer staples (+0.4%), financials (+0.3%), and materials (+0.1%) sectors closed higher.
It'll be interesting to see how the growth/technology stocks perform moving forward when money has been flowing into the cyclical/value stocks on reopening/inflation expectations and analysts have been calling for sustained underperformance. Many growth stocks are down substantially from their peaks in February.
The 10-yr yield increased six basis points to 1.64% from last Friday's settlement, but this was below the 1.70% settlement on Wednesday. Copper prices decreased 2% to $4.648/lb., representing many of the commodities that cooled off this week.
As always, it is my pleasure to bring you this weekly update. If this or anything else is causing you pause or you would like further details, please feel free to reach out to me and we can schedule some time to chat.
Justin J. Long CFP®
Founder/Lead Advisor
Diazo Wealth Group
702-745-1800 Direct
702-278-6560 Cell
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Source: 1. FactSet
Source: Week in perspective provided by Briefing.com. Briefing.com offers live market analysis on their web site www.Briefing.com.
Innovative Adviser Solutions, LLC, a registered investment adviser, dba Diazo Wealth
