Monetary Experimentation, Inflation, & a Soft Landing
I remember well a particular White Mountain storm my buddy and I survived ten or so years ago. On the descent from Mt. Adams to camp, 90 mph winds tossed us about like rag dolls, froze our goggles and then pelted our eyeballs with flying ice, buried every trail marker in 5-foot drifts, which buried us to the chest on every fall-through, and had us both convinced we’d be spending the night in a snow cave. Then my eagle-eye buddy spotted a cairn and got us out of there and to a hot cup of tea in a heated cabin in 30 minutes! This story has strong parallels to the Fed’s grand monetary experiment during, and following the Covid lockdown, the 40-year high inflation it created, along with a 2022 bear market in stocks and some of the worst 24-month performance for bonds on record, and now the soft economic landing the Fed seems to be miraculously engineering. Let’s consider the implications of this unique case study.
The Fed’s experiment in 2020 involved fabricating an unprecedented volume of new currency units with a keystroke, and then working with government agencies to deliver cash directly to individuals and institutions in need of a bailout due to the financially incapacitating lockdown. This process deviated from the normal distribution channel for newly printed dollars, which formerly kept those dollars in the possession of member banks, and rather placed them directly into the hands of spenders. The exercise taught regulators and Fed members that consumers more eagerly spend free money than earned money, and that when you force businesses to close their doors, they don’t just turn the lights off, they often shut the operation down.
While most of the resulting inflation from this experiment was associated with hyper-enabled consumer spending, now largely alleviated, some of it is entrenched in the resulting, yet unresolved, broken global supply chain. Investors are wise to recognize the danger of this entrenched inflation, just as we did those 5 foot deep, life-threatening snow drifts. Consider the probabilities:
The Fed will likely leave interest rates higher for longer, and later reduce them less than the market believes.
Homeowners with high mortgage rates will have less opportunity to refinance at lower rates in the near future than they realize.
There is a massive wall of corporate debt which will mature in the next 30 months, and which must be refinanced at a far higher rate than the present interest rate. This will likely lead to a credit event and economic recession which will introduce market volatility. Big investment opportunities will accompany these events.
In summary, it is not time to dig a snow cave! Policy is generally favorable, a big plus for quality stocks. Bonds issued by companies with controlled debt and solid balance sheets look favorable. Maintain a strong cash position but be sure to receive the going interest rate. The Fed seems to be engineering a remarkable soft landing, but like our mountain ordeal, it is mostly attributable to God’s mercy, not the Fed’s intelligence. No one can defy principles indefinitely without due consequence, and honest Fed members admit the present path is unsustainable long-term, so remain vigilant.
Think about it, Shaun.
“My God shall supply all your need according to his riches in glory in Christ Jesus.” ~Philippians 4:19
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The opinions expressed in this material do not necessarily reflect the views of LPL Financial.
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