October 2, 2023

“Inflation is taxation without legislation.“

Milton Friedman

As we close the 3^rd quarter, the final week of September proved to continue the effects of both inflation and taxation on the middle class. Here are the weekly numbers:

Stocks closed mostly lower on Friday, with the S&P 500 booking its biggest drop in a month since December, as a surge in bond yields knocked the wind out of this year’s rally in equities.

The Dow Jones Industrial Average shed 1.18% for the week, while the S&P 500 lost 0.52%. The Nasdaq Composite held on to a gain of 0.36%. The FSTE 100 was off a little less than 1% and the MSCI-EAFE was basically Flat at .09% down.

September was the worst month for the Dow since February, with its 3.5% loss, while the S&P 500 shed 4.9% and the Nasdaq lost 5.8%, marking their worst months since December 2022, according to Dow Jones Market Data.

Yearly core inflation edged higher in August, according to Friday’s release of the latest PCE price index. The PCE price index for August rose 0.4%.

The core PCE price index (minus food and energy) for August rose 0.1%. So, it is no surprise the markets were skittish. Another interesting event is that the option writing of puts and calls were at the lowest level in recent memory. Meaning? Even the professional risk takers in the markets have no confidence in making a significant bet in this environment.

Two- through 30-year Treasury yields were all lower Friday morning after data showed core inflation decelerating last month. Friday, the yield on the 2- year Treasury was 5.052% and the 10-year fell to 4.579%.

Most Americans care little and know even less about “core” inflation. All they know is they are paying more for gas, leaving them less to spend on other things. They are also paying more for housing and medical costs are rising again.

Some encouraging news across the pond, according to an AP report, Inflation that has been plaguing Europeans declined sharply in September, strengthening hopes that consumers will eventually get relief from costlier groceries, vacations and haircuts — and that the European Central Bank won’t have to further restrict the economy by raising interest rates from already record highs.

The annual rate was 4.3% this month, a drop from 5.2% in August. But recently higher oil prices are casting a shadow over prospects for beating inflation back down to the central bank’s target of 2%.

Does this mean the rate of inflation is going to stay high? No. But the Fed itself is predicting it will take a few years, (not by the end of 2023 as the optimists were touting most of the first part of this year.) to get inflation back down to its 2% target.

So when can good news be bad news? A 0.4% increase in consumer spending is normally a good thing. As consumers go, so does the U.S. economy.

But it also matters what people are spending money on. In August, Americans spent more on gas, housing, utilities and medical care. Necessities, not the discretionary or luxury items which are the sign of a robust economy.

The focus over the weekend would have been the U.S. government shutdown, but, late yesterday, a 45-day continuing resolution flew through both houses and signed by the President before the ink was dry, to avert a shutdown.

The reason for this unusual bipartisanship? The polls show the democrats would get the blame this time. Given the negative backdrop for markets, as we said above, the S&P 500, Dow and Nasdaq all booked declines in the third quarter. Energy maintained its spot at the top of the leaderboard and was the sole sector to post a double-digit gain (12.2%), propelled by rising oil prices. Oil closed at $93.68 a barrel.

The U.S. stock market has been volatile in September. Brace yourself for October.

September has the reputation of being the worst month for the stock market, but October far and away is the most volatile month of the year. So, if this October follows the historical averages, the stock market won’t lose as much as it has so far in September but investors will still feel whipped around.

As Barrons Columnist Mark Hulbert writes “You might think October’s historical volatility can be traced to the U.S. market crashes that occurred in 1929 and 1987, each of which occurred during that month. But you’d be wrong: October remains at the top of the volatility rankings even if those two years are removed from the sample. Nor is there any trend over time in October’s place in those rankings”.

So as redundant as it seems, we are continuing our defensive posture until things improve.

Mike