The market was hoping to see lower inflation numbers yesterday morning, but those hopes were short lived as inflation numbers came in hot.
Headline numbers clocked in +0.6% higher month over month
December inflation numbers were revised higher from the previous estimate and in my opinion are still low as the government excludes certain items in their inflation calculation, which is rather disingenuous.
Year-over-year inflation came in at 7.5% higher, the highest inflation rate since the late 80s.
Higher inflation numbers are negative for the stock market as there will continue to be a period of uncertainty with Federal Reserve policy. Inflation doesn’t appear to be “transitory” as the Fed members stated only a few months ago and look to be more permanent in nature as the economy continues to adjust to a new normal with additional printed money and debt in the system.
At this point there is only two things the Federal Reserve can do:
Raise rates to combat inflation
Keep rates where they are and let inflation run through the system
If the Federal Reserve raises rates, valuations will get crushed as investors will be forced to raise their discount rates. Tech valuations will feel the brunt of this as investors value cash flows from tech companies way out in futures years. As discount rates are raised, these potential cash flows in year 10+ become less and less valuable.
If the Federal Reserve keeps rates at near zero levels, inflation will run rampant and likely continue to increase. To keep rates at zero the Fed will continue to buy bonds, pushing yields lower. Right now yields are ultra-low and anyone investing in fixed income is losing money if their yields are not higher than 7.5%.
The Federal Reserve is currently stuck. This game of funky fake money is coming to an end and the one left standing will not have a chair to sit on when the music stops. If the Federal Reserve raises rates, valuations will get crushed as discount rates are adjusted higher. In addition, the Fed would be raising rated on the U.S. Government’s massive debt obligations ($30 trillion and counting) which would add an insane amount of stress to the global financial system. 500 basis points of higher rates will obliterate our ability to even consider servicing this massive amount of debt.
If the Federal Reserve keeps rates at zero, inflation will continue to increase and anyone on a fixed income will be pinched. Think Weimar Style Hyperinflation at this point. Asset prices will go nuts as investors attempt to predict what cash flows look like in a higher priced environment. The working class will likely struggle the most here as the top 1% of asset holders see their valuations increase.
FOMC minutes will come out Wednesday. I’m guessing the minutes will have a hawkish bias to them as the Fed looks to calm investors and the global financial system. The Fed will probably signal that they will tighten (likely four rate hikes for 2022) and the market will rush to price in this event. In my opinion, the talk on raising rates is all talk and the Fed won’t have the guts to raise interest rates on themselves.
I’ve been preparing for a Weimar Styled Hyperinflationary event for some time now. It is a dire and depressing situation that doesn’t make you friends at cocktail parties. Eventually the amount of debt and fake fiat money in the system will end extremely badly. When the tide turns, the ones who are not wearing a bathing suit will be seen.
I’ve talked multiple times about what I am doing to prepare for an inflationary environment. As a recap, I am pretty much fully invested as I think cash has become trash. I own companies that own real assets and pricing power in an inflationary environment. In addition, I recently just purchased a homestead of myself, locking in 3.99% interest rates. Sure, the housing market will likely collapse if rates are raised. But on the flipside, if inflation continues to run, I feel extremely good about locking in a 30 year-term at 3.99% when inflation is 7.5% and counting.
Good luck out there and stay safe. The road will be choppy going forward.
The first two months of 2022 have continued to be extraordinary for my portfolio. For those of you who are new here, I almost exclusively invest in the smallest publicly traded companies in the public markets and consider myself a hardcore value investor.
I love stocks that are trading at a multi-decade low, own asset that are worth more than the public valuation and buy when everyone is panicking.
I killed it in 2021 buying coal equities. And continue to watch coal equities reach new highs as investors begin to realize that higher coal prices, combined with inflation leads to significant free cash flows.
In addition, another favorite sector of mine has been the beaten down retail companies. I first started buying retail companies during the pandemic when the world was freaking out about COVID-19. Most retail companies were priced as if they were going bankrupt. As COVID began to subside, retail stocks outperformed and re-rated higher.
Now the talk with retail companies is higher costs from the supply chain, combined with retail companies coming up against harder comps as stimulus money is not hitting the pockets of everyday American’s this year. Sure, these are definitely headwinds retail companies will face. But these are short-term headwinds that are solvable that I am willing to take an asymmetric risk on.
Given the recent price movement in retail stocks, it appears as if other investors are seeing the asymmetric upside here as most retail stocks are beginning to re-rate higher in the last couple of weeks.
Finally, as I have begun to talk with paying subscribers to Alpha Letter, I will start to talk about The All In Portfolio again due to popular demand. The All In Portfolio struggled through the end of 2021, but has begun to recover in 2022. For those who are new here, The All In Portfolio is a side portfolio I have where I put 100% of the assets in one single stock. To see the stock The All In Portfolio is in click here.
Good luck to everyone in the market. These are turbulent times with extreme volatility.
Just remember this:
Time in the market > Timing the market