If you haven’t been following the markets this week good for you. It was a difficult week for investors as inflation once again sparked fears. More specifically, it sparked a fear that the Federal Reserve will push interest rates too high, and as a result that the economy is headed toward a recession in 2023. While I have confidence (perhaps poorly placed) in the Federal Reserve, it is not irrational to have these fears given its track record. These are uncertain times and we all know the market loathes uncertainty. If I were a betting man, I’d have to put my money on the markets testing the lows we experienced a few months back. That level is approximately 5% below where we are now. I don’t say that to scare you, but to give you a reasonable expectation in the near term. These periods don’t last forever, and eventually, markets will show a reversion to the mean.
So, let’s talk about the main driver this week. On Tuesday the August Consumer Price Index was released, and while it indicates the Fed’s tightening policy is slowly working, it is not working as fast as had been hoped. Put another way, inflation in some parts of the economy is “stickier” than in others. For example, gas and energy prices fell 10.6% in the month, but that was not enough to offset the stubbornly high cost of food. However, even excluding volatile food and energy prices, we saw core inflation rise in the period. Next week the Federal Reserve Open Market Committee (FOMC) will meet and decide on its next rate hike. Prior to this inflation report, expectations were for a 0.50% rate hike. Given the persistence of high inflation, it is now believed the Fed will hike rates by 0.75%, with some analysts suggesting it could go as high as 1%. The direction of the market, in the near term, will completely depend on how aggressive the Fed decides it needs to be in trying to tackle inflation.
Because of higher interest rates, we are seeing the housing market slow considerably. Mortgage applications drifted down 1.2% as mortgage rates reach the highest level since 2008. The 30-year fixed rate mortgage came in at 6.01% for the week ended September 9. Adding to the downward pressure is the monthly mortgage payment which has jumped from $1,000 in February 2021 to $1,816 today. That’s an increase of 81% over the past seventeen months. With home prices having skyrocketed, and mortgage rates have doubled in recent years, home buyers are once again turning to adjustable rate mortgages (ARMs). According to the Wall Street Journal, as of August 2022, more than 9% of all mortgage applications were for ARMs, up from 3.3% this same time last year. Having lived through the financial crisis in 2008, one must ask, what could go wrong?
From an economic standpoint, the economy is slowing. Aside from inflation slowly declining, industrial production shrank last month by -0.20% versus +0.60% in the prior month. Worth noting is that the economic slowdown is not consistent across the country, with some parts of the country showing a larger decline than others. For example, the Philly Fed Outlook dropped 9.9% in September, registering the third negative reading in four months. We should expect to see further declines in growth in the months ahead, albeit in fits and starts and perhaps unevenly across the various regions of the U.S.
In closing, I turn to the memorial for Queen Elizabeth II and the passing of the scepter to King Charles III. I came across an interesting article this week that I must share with you. We all assume royalty gets “special” treatment from the large and extravagant to the small and mundane. If they didn’t, could we even call them royal? But what does this look like in practice? A former butler spilled the beans. It seems King Charles is accustomed to having his pajamas ironed each day, along with his shoelaces. He has his valets squeeze one inch of toothpaste on his toothbrush every morning and travels with his toilet seat and “velvet” toilet paper. Unfortunately, the one hundred staff members at Clarence House received their walking papers this week after their positions were made redundant now that King Charles is moving to Buckingham Palace, which has its own staff. If you were hoping to become a butler or valet, I’m sorry to say the position is taken. Now you know.Bruce J. Mason, MBA