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Mr. Market's Mixed Messages

Written by Jason Williams
Posted July 22, 2022

“What’s going to happen next?” Is a question that’s probably on a lot of minds these days.

What’s the next crisis? What’s the next “pandemic”? What’s the next move in the stock markets?

I could go on for pages asking questions about what’s coming next.

But instead, I’m going to take up some of that space by telling you what I think happens next…

And how you should be preparing yourself for it…

Mixed Messages From Mr. Market

We’ve been getting a lot of mixed messages these days…

I mean, from all around, if you want to get technical.

Alexandria Ocasio-Cortez just got arrested for protesting the government regulating people’s bodies.

Exactly a year ago, she was begging the government to lock up anyone who didn’t get the mandatory vaccination she was also begging for.

But I’m not talking about our politicians who are so dumb they don’t even realize they’re being stupid.

I’m talking about the stock market. And the bond market. And the commodities market.

They’re giving some incredibly mixed signals.

First you’ve got stocks. They’re in rally mode after falling drastically in the first half and seeming to bottom out in mid-July.

Investors seem to think that the Federal Reserve might just have inflation in check and might be able to navigate a “soft landing.”

That just means markets think inflation has now peaked and the Fed isn’t going to cause a recession by continuing to raise rates.

And if you look at the commodity and energy markets, you might agree that inflation is cooling off.

Prices for metals, oil, and other resources and commodities have been falling for a month.

But those price changes are part of another story the market is telling: demand destruction.

That’s when prices get so high that people just stop buying stuff.

Higher gasoline inventories seem to confirm that theory. But that’s counter to the message stocks are sending.

Stocks say the Fed has it under control. But if that’s the case, then inflation cooling should raise the demand for things like gas.

The energy markets (and commodity markets, too) are pricing in demand destruction, though, not demand creation.

So that says the commodity markets and the energy markets think inflation is sticking around for a while.

And then we get into the bond markets. You know I got my start there on Wall Street.

So you know I’m probably a little biased when I say this, but those people are the smartest traders I’ve ever met.

I’ve pointed out how they gave us a good half-year’s notice that markets were peaking and about to plummet, but it bears repeating since they’re giving us another message that’s being ignored right now…

credit spreads signal top

See that red circle up there? That’s when the bond markets signaled a top was forming in the stock markets.

That was mid-2021. Markets peaked a few months later and have lost TRILLIONS in value since.

So, while the commodity traders and the equity traders are sending you mixed messages about what’s to come, I want you paying attention to the smartest people in the room.

Because they’re saying a DEEP recession is heading our way… and they’re saying inflation is sticking around for the party.

It Mattered Last Time

You probably missed it because nobody seems to care that it’s happening this time.

But last time it happened, it was all the talking heads could talk about.

I’m talking about the yield curve, or the relationship between short- and long-term debt interest rates.

Back in 2018, it inverted for a few hours and people panicked. In 2020, it inverted for less than a day and people screamed bloody murder.

But in 2022, it’s been inverted for weeks and nobody seems to care at all. Despite the fact that an extended inversion ALWAYS leads to a recession.

Two-year debt pays a rate of 3.25%. Five-year debt will earn you 3.18%. And 10-year Treasuries will pay 3.04%.

Think about that for a second. When’s the last time you got a higher interest rate for locking your money into a CD for LESS time?

Never. Never is the answer to that question. Because it just doesn’t make sense.

If you’re locking up your money for five years, you should get paid more than if you’re locking it up for two. The risk is higher because the money’s locked up longer.

But that’s not how U.S. government debt is trading right now. And it’s not how it’s been trading for a few weeks:

yield curve inverted July 2022

That red circle there right around the Fourth of July is when they flipped and short-term 2-year debt started paying more than long-term 10-year debt.

When that happens for just an instant, it can mean a recession could be on the way. When it happens for several weeks, it means a recession is most certainly on the way.

 

Recession Plus Inflation Equals Trouble

But what about that inflation? If the Fed’s throwing us into a recession, doesn’t that mean it’s got inflation under control?

Well, I wish I could say yes to that question. But I’m just not that confident.

The Fed has been aggressive compared with the past decade. But it hasn’t been aggressive compared with the current rate of inflation.

That came in at 9.1% for June. Expect it to be above 10% for July.

The fed funds rate (that’s the rate they keep hiking) is currently at 1.5%–1.75% (they use a range).

In order for the Fed to kill inflation, that fed funds rate needs to be a couple percent above the rate of inflation.

It encourages people to save money because they can beat inflation through interest.

So let’s do some simple math, shall we?

Inflation is at 10% (let’s just assume that’s where it is running this month). So money is losing 10% a year just by existing.

The fed funds rate is 1.75% (we’ll use the high end to make it easier on the governors).

So if you take that 1.75% interest, you’re only losing 8.25% per year.

That doesn’t encourage saving. A rate higher than 10% might do the trick.

But anything lower than the rate of inflation is only going to hurt the economy. It’s not going to stop inflation in its tracks.

What I’m saying is that the Fed is going to force a recession. But it’s not going to have the stomach to let that recession take the bite out of inflation.

So it’s going to try to balance the two and fail at both.

We’ll see no economic growth (or we’ll see GDP shrink) AND we’ll have to deal with sky-high inflation.

It’s called stagflation, and for those of you who didn't live through the 1970s, it’s not fun.

And it’s not good for stock market investors. That high inflation in the 1970s meant that even double-digit returns in the stock market were actually losing trades once the value of money was factored in.

If you’d invested $100 in the S&P 500 in 1970, your nominal return (the dollar value of the profit) would have been $130.60, or 130.6%, by 1980.

1970-1980 unadjusted

But adjusting for the inflation that ripped through the economy between 1970 and 1980, that 130.6% nominal gain works out to an 8.58% gain.

1970-1980 inflation adjusted

It’s a little complicated, but think of it like this:

In 1970, that $100 would buy $100 worth of stuff at 1970s prices.

By 1980, prices had gone up so much that the $230.60 you had by then would only buy $8.58 more than $100 bought in 1970.

It looked like you’d more than doubled your money.

But inflation ate away at so much of your gains that you only really made 8.58% after waiting 10 full years!

What Can YOU Do?

So what’s an investor to do when faced with times like these?

Well, first of all: Don’t panic.

Panicked investors just make other investors richer.

Second: Ignore the talking heads like Jim Cramer.

Nine times out of 10, by the time he’s recommending something, the rally has already faded.

Third: Make sure you’re reading every issue of Wealth Daily.

We’re here for YOU, not for our corporate owners (because we don’t have those).

Fourth: Take advantage of this limited-time offer to become a monthly member of one of our most popular investing communities.

It was founded to protect your assets from times like these and help you profit no matter what the market throws at you.

Fifth: Pay attention to what my fellow editors and I are telling you.

We’re not beholden to hedge fund billionaires like the “analysts” on TV. We say what we think and what we want, not what we’re told to.

And sixth: Keep an eye out for my next article on Monday because I’ve got some more research to share with you that you’re not going to see ANYWHERE else.

To your wealth,

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Jason Williams

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After graduating Cum Laude in finance and economics, Jason designed and analyzed complex projects for the U.S. Army. He made the jump to the private sector as an investment banking analyst at Morgan Stanley, where he eventually led his own team responsible for billions of dollars in daily trading. Jason left Wall Street to found his own investment office and now shares the strategies he used and the network he built with you. Jason is the founder of Main Street Ventures, a pre-IPO investment newsletter; the founder of Future Giants, a nano cap investing service; the editor of Alpha Profit Machine, an algorithmic trading service designed specifically for retail investors; and authors The Wealth Advisory income stock newsletter. He is also the managing editor of Wealth Daily. To learn more about Jason, click here.

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