S&P 500 closes at all-time high despite hotter than expected CPI

In a rising market, everyone makes money and a value philosophy is unnecessary. But because there is no certain way to predict what the market will do, one must follow a value philosophy at all times. – Seth Klarman, American hedge fund manager

Stocks rebounded strongly last week as concerns about the spread of the Omicron variant faded and investors shrugged off a hotter than expected inflation report. The S&P 500 jumped nearly 4% and closed at an all-time high while the Dow Jones Industrial Average and the Nasdaq Composite Index also posted big gains. Although the Omicron variant has now spread to at least 15 states, initial data on the variant has been encouraging as its symptoms are relatively mild even though it appears that it is more easily transmissible.  Pfizer and BioNTech said that three doses of their vaccine are effective at neutralizing the Covid-19 variant based on preliminary lab tests. Investors also seemed to take the November consumer price index (CPI) data in stride despite the fact that it showed the highest annual increase in nearly 40 years. The headline number for the CPI jumped 6.8% year-over-year, slightly higher than estimates, while the core CPI that excludes food and energy prices rose nearly 5% from a year ago. Strong consumer demand for goods and supply chain bottlenecks have been major factors for the high inflation. The one bright spot in the inflation data was that price increases in used cars, lodging and airfares were all lower than expected, a sign that inflation may be peaking. The bond market also seemed to dismiss worries about inflation as the 2-year Treasury yield edged lower to 0.67% and the 10-year Treasury yield ended the week at just 1.48%. This comes only a week after Federal Reserve Chairman Jerome Powell admitted that inflation can no longer be described as ‘transitory’ and that the Fed would accelerate its bond-buying taper as a way to combat inflation that has proven to be higher and more persistent than expected. Although the stock market could experience more volatility, last week’s strength could be the beginning of a Santa Claus rally, or the tendency for stocks to rise toward the end of December.

Last Week

Weekly jobless claims were 184,000, far less than the 211,000 forecast by economists and the lowest level in 52 years. The Job Openings and Labor Turnover Survey or JOLTS showed that the level of job openings rose to just below its all-time high with the number of openings exceeding those looking for jobs by 3.6 million in October. The University of Michigan consumer sentiment index rose in early December from its final reading in November and was better than expected.

For the week, the Dow Jones Industrial Average surged 4.0% to close at 35,970 while the S&P 500 Index jumped 3.8% to close at 4,712, a record high. The Nasdaq Composite Index rose 3.6% to close at 15,630.

This Week

The November producer price index (PPI) is expected to rise slightly less than the increase in October while import prices are expected to be considerably less than they were in the prior month. November retail sales are forecast to be fairly strong but less than they were in October when they increased by nearly 2%. Industrial production data for November should show a moderate rise but less than the big increase in October.

The Federal Open Market Committee (FOMC) meets this week to review its monetary policy and is expected to discuss the timetable for tapering its monthly bond purchases. The Fed could decide to double the pace of its taper and end the program by the spring of 2022.

Among the most prominent companies scheduled to report quarterly earnings this week are Lennar, Adobe, FedEx, Darden Restaurants, Accenture and Rivian Automotive.

Portfolio Strategy

The main event this week will definitely be the Federal Open Market Committee (FOMC) meeting on Tuesday and Wednesday. The Fed has already telegraphed that it plans to speed up the completion of its monthly bond-buying program that was implemented in early 2020 to help the economy at the onset of the pandemic. The Fed also slashed the federal funds interest rate to provide ample liquidity and bolster confidence in the markets. Last week’s hotter than expected inflation data for the consumer price index (CPI) was further proof that the Fed must act more quickly to get inflation under control. What is puzzling is how calm the bond market has been as the yield on the 10-year Treasury finished the week at only 1.48%. (Bond prices and yields move in opposite directions). One would expect bond yields to rise with inflation at its highest level in 30 years and GDP growth forecast to be much stronger than normal. One reason for this anomaly could be concern over the spread of the Omicron variant, but it appears that its symptoms are not severe and that it is unlikely to cause a shutdown of the economy. Pfizer and BioNTech also gave assurances that three doses of their vaccine provided a high degree of protection against the Covid-19 variant. Perhaps the bond market believes that the Fed is doing enough to combat inflation by ending its bond purchases earlier and possibly raising interest rates sooner. Time will only tell but there should be little market reaction after the meeting unless the Fed decides to become much more aggressive than anticipated.