Equity markets have retreated beyond the June lows as inflation remains elevated, and the FederalReserve continues raising rates to combat it.
At the September meeting, the Fed raised its Effective Fed Funds rate 0.75% for the third time thisyear. This is one of the fastest and most aggressive starts to a rate hike cycle in history. In hisSeptember remarks, Chairman Jerome Powell then reminded listeners of the Fed’s dual mandate formaximum sustainable employment and price stability with a target inflation of 2%. It was made clearthat we are at full employment, and the focus now turns to price stability as inflation is at 40-yearhighs.
Powell went on to state that the Fed’s commitment to bringing inflation back down to its 2% targetwas “unconditional”, which tells us that it is their only focus at this time. As he continued tocomment, it was stated this new focus will likely require a “modest” increase in the unemploymentrate and pain to some consumers and businesses.
A significant driver of inflation has been the rise in costs of energy over the past two years. During theinitial economic shutdowns in 2020, the cost of oil dropped that April to negative $36.98 per barrel.Just two and half years later, with the economy completely reopened, the price of oil spiked to nearly$125.00 per barrel in June. This increase in the cost of oil was largely due to demand slowly gettingback to pre-pandemic levels, but things escalated after Russia crossed the border into Ukraine.Fortunately, both retail gas and diesel fuels are now well off their mid-year highs: down 26.16% and14.56% respectively.
As energy cost increases begin to wane, we are likely to see continued inflationary pressures fromboth higher wages and higher rental costs. Rental costs have been climbing, but they have not gainedenough proportional to the housing costs increases. Housing costs may soften some, but it is morelikely that rental costs continue to grow than housing costs fall. Wages also need to rise to make upfor the erosion effects of inflation from the past twelve months. We foresee elevated inflation data(over 2%) for the foreseeable future but not at the 8-9% levels seen in the first half of this year.
Another driver of market volatility this year is the mid-term elections. We are just over a month awayfrom them being in our rearview mirror. Historically, the first half of a mid-term election year offerslittle to no equity market gains. Conversely, the second half tends to offer significantly better marketgains with most of those gains coming in the last quarter of the year. Therefore, it would be ‘normal’for the market trend to change in the last quarter of this year; however, the Federal Reserve’smonetary decisions will weigh heavily.
Economic conditions have slowed recently, and while it may be a bit unsettling at times, weremain confident that a well-defined investment strategy of defensive, dividend payingcompanies remains a prudent course of action, and the patient investor will benefit in the longrun.
|Thomas A. Toth, Senior|
|Kenneth Bowen, II|
President & CEO