Inflation Continues to Perplex Investors But Opportunities Exist
Trading during the past week shows investors still have no idea what to make of the current macro environment. The two dominant themes, inflation and Fed policy, remain intact, and markets appear as confused as ever about the path forward. Inflation remains the most important datapoint to watch, and data released this week highlights inflation's persistence. The market reaction to August's inflation data indicates investors didn't bother to look beyond July's headline number and instead pinned their hopes on a Fed pivot. And while we were (and remain) hopeful for a peak in inflation, we cannot be complacent in the meantime.
Uncertain Fed policy is the secondary effect created by inflation's dominance. Inflation's uncertain trajectory is humbling both the Fed and investors, making it difficult to forecast investment returns and economic growth and therefore position portfolios. With that being said, the August CPI report gives off similar vibes to the July CPI report: (1) inflation is proving to be more persistent than expected and (2) the Fed is unlikely to view the latest data as clear and convincing evidence that inflation is receding. A +0.75% rate hike at the September meeting appears to be a lock, and the theme of higher for longer is gaining traction.
Prolonged bear markets are frustrating. As the saying goes, bulls and bears both lose money during bear markets. The primary issue is markets trade on speculation and theory rather than fundamentals and rationality. This bear market's emphasis on uncertain inflation and Fed policy makes the above saying especially true. Emphasizing data and the facts is important to position portfolios, conserve capital, and remain sane as markets bounce around.
We can look at ways to enhance returns with structural and diversifying strategies. Challenging markets do produce opportunities. Alternative asset classes that have underwhelmed in the low-rate and low-inflation environment of the last decade might be beneficial under the new paradigm. Additionally, rather than attempting to predict when markets will improve, we can stay diligent with risk management and portfolio construction to not only whether the storm, but capitalize on its opportunities.
