It seems we’ve been talking about a “Fed Pivot” since last summer, and yet nearly a year later, the Fed is still hiking rates.
However, the data strongly suggests that the highly anticipated and long overdue Fed pivot is just around the corner.
When it does arrive, it could spark a massive stock market rally.
You need to be prepared for this coming rally. But first, let’s look at three reasons why a Fed pause and huge stock market rally are right around the corner.
Reason #1: Inflation Is Crashing
For some odd reason, the Fed thinks inflation is still high.
News flash: It’s not (really).
Sure, the headline consumer price index inflation rate is still 5%. That’s 2.5X the Fed’s 2% target. But the headline inflation rate – like most major economic data points – is a lagging indicator.
It takes time for changes in economic activity, supply chains, borrowing capacity, and consumer spending to work their way into the final prices of goods. These things have lag effects.
Forget the lagging headline inflation rate for a moment. Instead, let’s look at the leading indicators of inflation;things like price survey data and commodity prices.
They’re all crashing! And they’ve all returned to pre-pandemic levels. Some are even hovering near all-time lows.
For example, let’s look at the price data from yesterday morning’s Philadelphia Fed Business Outlook Survey.
In that survey, the Philly Fed surveys a bunch of businesses in Pennsylvania, New Jersey, and Delaware areas to get a gauge of economic trends. One of the key questions is how prices paid for goods and services are trending. Another key question is how prices received for goods and services are trending.
The Fed conducts this survey once a month. The April survey results were released yesterday.
They showed that the Prices Paid index dropped from 23.5 to 8.2 in April. The Prices Received index dropped from 7.9 to negative 3.3. On a composite basis, the combined Price index dropped from 31.4 to 4.9 in April.
Of course, that’s a steep fall. But here’s the big thing: At 4.9, the Price index is near all-time lows.
You read that right. One of the most prominent leading indicators of inflation – the Philly Fed Survey’s Price index – hasn’t just returned back to pre-pandemic levels, but is now also plunging to a decade low.
Inflation, folks, is dead.
The Philly Fed survey data isn’t the only data point suggesting as much.
Pretty much every other price index in every other Fed district survey has plunged back to pre-pandemic levels, as well. The Bloomberg Commodity Price Index has plunged more than 20% since June 2022. Oil prices have lost about half their value over that same stretch. Natural gas prices are plunging to all-time lows right now.
Every leading indicator of inflation is pointing sharply downward at the current moment. More than that, every leading indicator of inflation has reverted to pre-pandemic levels. Many of them are at multi-year lows.
That means just one thing, folks. Inflation may still be at 5% today, but it is on a predetermined course to 2% (and maybe even lower) within a few months.
Reason #2: Inflation Will Keep Crashing
The most impressive thing about the current round of disinflation is that we’ve basically cut headline inflation rates in half – from over 9% to below 5% — without any help from the biggest component of inflation: shelter.
Shelter CPI accounts for about 35% of the headline CPI. It is the biggest weighting in the calculation. Yet, shelter CPI rates have kept climbing.
Since June 2022, headline CPI has dropped from 9.1% to 5%. Over that same time, shelter CPI has risen from 5.6% to 8.2%, and hasn’t posted a single monthly decline.
We’ve cut inflation almost in half without any help from the biggest weighting in the CPI calculation.
But that biggest weighting is about to collapse.
Like headline CPI itself, shelter CPI is a lagging indicator. It takes time for lower home prices and rents to show up in the shelter CPI.
But home prices and rents are dropping quickly. Last month, for example, the median sales price of an existing home in the U.S. was $375,000, down about 0.9% year-over-year.
That 0.9% drop is the biggest annual price decline for homes since 2012.
Zillow’s Observed Rent Index, meanwhile, has dis-inflated from about 17% a year ago, to less than 6% today.
Home prices and rents are dropping about as fast as they could.
Our analysis suggests these drops are about to show up in shelter CPI.
That is, home price and rent changes tend to lead shelter CPI inflation by about six to 12 months. Considering that historical relationship, it looks inevitable that the collapse we’ve seen in home price and rent inflation will start to show up in a big way in shelter CPI numbers next month.
We think the current 8.2% shelter CPI inflation rate will drop rapidly below 4% within the next three to four months.
Again, that’s the biggest weighting in the CPI calculation. We’ve already basically cut inflation in half without shelter CPI dropping one ounce. As it starts to plunge like a rock into summer, overall CPI inflation rates should crater.
We will likely see 2% inflation by late summer.
Reason #3: The Labor Market Is Cracking
While everyone is all caught up in the Fed’s fight with inflation, we must remember that the Fed has a dual mandate. They are mandated with fighting inflation and keeping people employed.
The Fed has been able to stay aggressive with its fight against inflation because, thus far, it hasn’t really hurt the labor market.
But that is changing right now. The labor market is showing signs of significant stress.
Sure, the unemployment rate remains historically low. Again, though, that’s a lagging indicator. The best leading indicator of unemployment is weekly jobless claims – and, more specifically, weekly jobless claims in economically sensitive states.
When a lot of people start to file jobless claims in economically sensitive states, that’s a sure-fire sign that the national labor market is on the edge – and a huge unemployment crisis could be at hand.
That’s exactly where we are today.
About one-third of states are currently reporting greater than 30% growth in continuing jobless claims.
In other words, nearly one out of every three states is seeing jobless claims spike right now. That’s exactly what happens every time before the labor market cracks.
The Fed has been able to duck for cover behind a super strong U.S. labor market for months now. That cover is disappearing.
As it does, so will these rate hikes.
The Final Word
The Fed has a dual mandate: stable prices and full employment.
From the perspective of that dual mandate, the Fed should wrap up its rate-hiking campaign very soon – likely by June.
Inflation is crashing back toward 2% very rapidly, and the labor market is starting to crack in a very worrisome manner. With inflation crashing and the labor market deteriorating, a Fed pause is on deck.
That’s bullish, because every single time the Fed has paused a traditional rate-hike campaign, the stock market rallied.
Every single time.
Which is more likely? That this is the first time in history the stock market doesn’t rally after the Fed pauses its rate-hike campaign, or that history repeats.
We’re banking on the latter.
We believe the stock market is prepping for a big rally into the summer.
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On the date of publication, Luke Lango did not have (either directly or indirectly) any positions in the securities mentioned in this article.
