Jerome Powell has pretty much declared victory on inflation. How’s that going to affect you and your portfolio?
With the beautiful backdrop of the Teton Mountains in Wyoming, every year there’s an annual gathering of central bank leaders from all over the world, and everybody’s listening with bated breath to what these people are going to say.
This year Jerome Powell, the Fed Chairman, pretty much declared victory on the three-year fight against inflation. It’s clearly going to drop down as low as 2%, which is great news, but the Fed has a dual mandate. Its mandate is not just to control inflation, it’s also to seek full employment. Some would say that those are conflicting mandates, but yet somehow the Fed’s done a pretty good job targeting both.
So now that Jerome has pretty much indicated that we can expect interest rates to drop as much as two percentage points over the next 12 to 18 months, markets are already pricing in the first drop of about a quarter percent in September.
Right now, interest rates are 5.25% To 5.5%. That’s a pretty significant drop from current high rates. Surprisingly, there’s been an immediate rally in gold prices. I say “surprisingly”, because normally gold is considered an inflation hedge. Lower rates are always a boost to bond values, and they tend to be good for stock markets. With signs of a slowing economy however, the timing of this announcement is fortuitous. Lower interest rates hopefully will unstick the real estate market. Right now we have people stuck in their homes. They cannot afford to move and leave that 2.5% mortgage and replace it with a 7% mortgage.
Interest rates coming down a couple of points should pretty much unstick that market, and that’s important for a number of reasons. Not only homeownership mobility, but so much of the economy revolves around building houses, stocking houses with furniture, appliances, and other services related to home building.
The outlook for global markets, particularly emerging markets, also is looking quite promising. Global markets, and in particular emerging markets, have really badly underperformed U.S. domestic markets for quite some time now, and all good and bad things sooner or later must come to an end. It does appear that we’re beginning to see the beginnings of a systemic change in valuation where global equities are getting a little bit more attention. One of the biggest risks facing investors over the next decade is continued high deficits within the United States, resulting in a weakened dollar. And should that happen, holding global equities as a diversifier will be the single best way to protect the portfolio from carnage.
So the outlook for global stock markets is actually quite interesting. Typically, when the Fed lowers interest rates, many other countries follow. What we’re expecting to see is global markets recovering from a decade long underperformance relative to the S&P 500, especially emerging markets. This is already showing up in market pricing right now. Why? The biggest concern for an investor in the United States should be the loss of the preeminence of the dollar due to continued and growing severe deficits. Should that happen, your single best protection will be to have some exposure to those external markets, those global markets. Why? Because when the dollar weakens, your holdings and foreign investments will go up in value relative to your domestic holdings. This is a great hedge. We don’t have to have too much of it, but it is something to keep in mind.
So there are a lot of interesting opportunities for informed investors. If you have any questions about any of this or just want to converse about your investments in general, please don’t hesitate to give me a call. Meanwhile, we wish you the best of investing success.
Sources
- Jerome Powell (almost) declares victory over inflation (economist.com)
- A soft landing at Jackson Hole
Paul is the founder and CEO of Avion Wealth, LLC. He leads a team of wealth managers in building and executing financial plans for high net worth individuals and families. Contact Avion Wealth to speak with a financial advisor.
