Bring On Inflation

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The Fed’s new policy on inflation … the benefit to gold … what it means for savers … the battle between depreciating cash and lofty stock values


Welcome to the new era of inflation … time to buy some hard assets.

Yesterday, at the Fed’s annual symposium in Jackson Hole, Wyoming, Chairman Jerome Powell announced a major policy shift for the Federal Reserve.

Calling it a “robust updating” of policy, Powell said the Fed will now allow inflation to run “moderately” above the 2% inflation goal “for some time.”

In short, the idea is that just touching 2% inflation (when/if it happens) won’t be enough. We’ll need to let inflation run above 2% for a while to make sure that the level actually holds.

This is a shift away from prior Fed policy that would hike rates when unemployment dropped as the economy appeared to be heating up.

The practical effect of this is simple — prepare yourself for target-rates of near-zero for as far as the eye can see.

***Gold is the obvious winner of this policy change


The yellow metal loses luster when investors can turn to other investments that offer handsome income streams. But with the Fed signaling low rates for the foreseeable future, it will suppress most income-investment yields. Take the U.S. 10-Year Treasury bond.

Today, given our zero-rate world, investors are losing wealth with the 10-Year. You can see this by looking at what it’s yielding after adjusting for inflation.

The below chart comes from the Federal Reserve Bank of St. Louis. It shows the 10-Year’s inflation-adjusted yield coming in at -1.01%.



When traditional income investments pay meager, zero, or even negative rates in this case, it reduces a major obstacle for owning gold.

Meanwhile, if increased inflation is the goal, that’s the same as saying “a weaker dollar is our goal.” Since, historically, a weaker dollar means a stronger gold price, that’s an active reason for putting money into gold rather than a paltry-yielding income investment.

On the news yesterday, the precious metal actually fell. But that was because traders expected the remarks from Powell, so the news was already priced in. As I write Friday late-morning, the bulls are back in charge with gold up 2%.

Bottom line — regardless of short-term price-action, gold is a long-term winner of this policy shift.

***The Fed’s new direction is not good news for the unprecedented mountain of consumer cash sitting in banks today


Companies and consumers have flooded U.S. banks with more than $2.4 trillion in deposits since the beginning of the year.

These are record numbers.

From CNBC:

The wall of money flowing into banks has no precedent in history: in April alone, deposits grew by $865 billion, more than the previous record for an entire year.

The phrase “wall of money” could be taken literally.

Below, you’ll see a chart of “Total Checkable Deposits” from the Federal Reserve Bank of St. Louis.

I think what’s happened here in 2020 (circled in red) speaks for itself …


The biggest banks in the U.S. are now flooded with consumer cash.

For example, JPMorgan reported a $406 billion year-over-year surge in new deposits during the second quarter.

For context, that’s equal to the entire deposit base of US Bancorp — which is the fifth largest bank in America.

Interestingly, as the volume of “saved dollars” has been skyrocketing, the value of those same dollars has been falling.

Below is a chart of the U.S. Dollar Index.

It’s a measure of the value of the U.S. dollar relative to the value of a basket of six major global currencies — the Euro, Swiss Franc, Japanese Yen, Canadian dollar, British pound, and Swedish Krona.

Below, you can see it dropping from its March-spike of roughly $103.50 to today’s level of about $93.



So, Americans are putting huge volumes of cash in the banks … but that cash is buying us way less than before.

Hold onto that for a moment. We’ll circle back …

***The “extreme” valuation levels of stocks


In their Wednesday update of Strategic Trader, our technical experts, John Jagerson and Wade Hansen, wrote that an accommodative policy shift from the Fed would be a positive for stocks:

In the short term, this should be supportive for the market, but if any hints emerge that the Fed may change course, we could see another “taper tantrum” like we did in 2013.

Despite being “supportive” for the market, John and Wade noted that the policy shift is happening at a time when stock valuations are sky-high:

There is no way around the fact that stocks are at extreme valuation levels.

If current estimates turn out to be accurate for earnings in the third quarter, the S&P 500 is trading near a 30x valuation, which is just above where it was in October 2008 just before the financial crisis accelerated.

The market’s P/E ratio isn’t the best forecasting tool; however, it can help us measure risk, which is still very high right now despite the recent positive performance.

To see what this “very high risk” looks like, below is a long-term chart of the S&P 500’s price-to-earnings level.

As you can see, its current reading of 29.99 is the highest level in more than 140 years with the exception of the dot-com run-up and collapse, and the global financial crisis.



Let’s now bring the increasing (yet depreciating) cash levels back into the mix.

***The combination of a weakening dollar and historically high stock valuations is leaving many investors in a tough position


Where do you want your wealth today? Cash or stocks?

On one hand, if you move to cash to avoid what might be a violent market drop from our current, lofty stock valuations, then your wealth is vulnerable to the Fed’s new policy of higher-than-usual and longer-than-usual inflation.

However, hypothetically, that inflation might not come for years. And had you been in stocks, the market could have kept grinding higher, growing your wealth despite lofty valuations.

On the other hand, if you put your cash into stocks to ride this bullish momentum, you’re vulnerable to a market crash that could come from any number of sources — bad news on the coronavirus front, China, the presidential election …

Hypothetically, had you been in cash while the market crashed, you’d be able to cherry-pick fantastic stocks at far-lower valuations …

What’s the answer?

***There’s no one-size-fits-all, but there are two important principles to keep in mind as you consider your own situation


First, as we’ve noted many times in the Digest, it’s not so much a “stock market” as it is a “market of stocks.”

In other words, resist the temptation to think that stocks rise and fall in unison as some broad monolith … with the fear that if “the market” drops, so too will your portfolio.

Instead, focus on the specific strengths and outlooks of your own stocks. That’s far more important than what’s happening in the broad market, and even the valuation of the broad market. To illustrate, look at Apple.

As you can see below, from January 3, 2000 through April 2, 2012, the S&P went nowhere.

It literally returned -3.42%.

Meanwhile, Apple returned over 2,300%



Did the “lost decade” of the 2000s matter to an Apple investor?

Again, it’s your stocks, not “the market,” that matters.

The second principle to keep in mind is that investing doesn’t have to be an “all in” or “all out” experience.

Too many investors tend to think about the markets in binary terms — you’re either fully invested or you’re out.

But is such a position of extremes logical?

What if you were told you had to choose between showering in either scalding water or ice-cold water … even though the shower was perfectly capable of providing medium-warm water?

Today, many of our InvestorPlace analysts are incredibly bullish on our newly started decade. If you want to follow their recommendations but valuations have you nervous, why not simply lower your position size?

Invest, say, one-third of your normal amount. If the market pulls back, great — you have a chunk of cash ready to take advantage of lower prices.

On the other hand, if stocks continue grinding higher without a meaningful pullback, your wealth is climbing alongside them.

Sticking a toe in the water, so to speak, is a great way to avoid regret — whether it’s the regret of investing … or not investing.

As we wrap up, the Fed’s new policy puts the dollar and savers in the crosshairs, but it bodes well for more long-term gains for gold, stocks, and various hard assets.

We’ll keep you updated as these dynamics play out.

Have a good evening,

Jeff Remsburg

The post Bring On Inflation appeared first on InvestorPlace.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.


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