Moneybeat: Inflation is still in stock

MARY REICHARD, HOST: Next up on The World and Everything in It: the Monday Moneybeat.

EICHER: It’s time to talk business, markets, and the economy with financial analyst and adviser David Bahnsen. He’s head of the wealth management firm The Bahnsen Group and he’s here now.

David, good morning!

BAHNSEN: Well, good morning Nick, good to be with you.

EICHER: All right, September CPI, the government’s consumer price index report. Last month the CPI rose 3.7 percent versus last September, and no change from August which was also 3.7 percent higher year on year.

You said last week the Fed is in a real pickle. Is the Fed still in the same jar? Is this better or worse?

BAHNSEN: Well, it's a totally different situation now. I mean, you have the CPI right now showing 34% of its weighting in shelter, up 7.4%, where all market indicators have it somewhere between up 1% and 4%. There's a little difference between the escalation of new rents, which is probably negative, but maybe up 1%, and then renewals of rents, which are probably up 3-4%. So when you adjust for that, it takes a full one and a half percent off of the CPI, which puts it at the 2.2%, which is the Fed's target.

What is absolutely bizarre is that oil has moved up so dramatically, and gas prices are down. And the reason is that refiner margins have utterly collapsed. So it's really a gift to the CPI data on a headline level, because it's enabling oil prices to have gone higher without impacting the consumers to the same degree at the fuel pump. There's actually plenty of impact for higher oil prices to the consumer in other areas. Oil obviously impacts the economy in a lot of different ways.

But I think that the Fed's pickle right now is not on what they ought to do. There's just no rationale in the world for possibly raising rates higher. It is more to do with the quantitative tightening that I spoke about last week, whereby they are using their balance sheet trying to reduce bonds on the balance sheet. And that is putting upward pressure on the long end of the curve, longer dated bonds, which will at some point become a big issue. And I suspect before that happens, they will have to retreat from that policy.

EICHER: Let me ask: what is the Fed going to need to see to decrease rates? We’ve talked about this in a way not meant to suggest some kind of political conspiracy, that it’s going to be cutting interest rates before the general election next year. But what should we look for as a signal that the Fed governors will act on?

BAHNSEN: Well, remember, 2024 was an election year six months ago, also, and a year ago and 18 months ago, and there's never been a time where even the Fed's own projections, let alone market Fed Funds Futures, didn't predict that rates would start coming down in 2024. Now, that time period at which they begin cutting has been moved further and further out in market indicators and the Fed zone, what they call dotplot. But I don't think that saying what the Fed says they're going to do and what the market says they're going to do is conspiratorial. I think what I'm referring to is the history, that you just simply don't have a Fed raising rates in presidential election years, barely ever. And sometimes you have them not doing so when they said they were going to do so.

Now in 2020, they went down to 0%, but that was in COVID. And I would point out there was a Republican running for reelection then. In 2016, they went and stayed at zero when they said they weren't going to, and that was going to be a new Republican versus a new Democrat after President Obama had been termed out. So there's all sorts of different political things. I don't think it is partisan. I think it is that they don't want to be perceived as having their finger on the scale.

In this case, though, what the rationale for cutting rates is does not have to be "We want to help President Biden," it has to be "We have rates way too high, and now we need to get them lower." And so I believe that it makes a lot more sense. But in the meantime, they probably will not do what I believe they should do as soon as they should. And so yes, I expect rates to come down sooner than the market currently expects it. The whole question that I do not know the answer to is if and what they break before that happens.

EICHER: Geopolitical developments often drive global economies, and I’m thinking about war in Israel. Is that a big story in terms of economic impact?

BAHNSEN: I don't think there's any question the biggest story in the country not only was what the news was dominated by with the utter, horrific terrorist tragedy of Hamas's vicious attack on Israel. I think it’s that the way in which markets responded - the Dow was up 850 points from early Friday to early Saturday. The S&P and NASDAQ were not up as much. But you basically did have bond yields dropped this week. And it's really hard to say, did they drop as sort of a flight to safety? Bond prices were rallying, more people were buying treasuries, which brought yields down because of the Middle East turmoil, or was that due to happen anyways? Because yields had been, you know, up for five weeks in a row. And there really isn't any way to know for sure. But I think that the uncertainty now presented by where things go potentially involving Iran, that's a big story that will linger and add more uncertainty to an already multivariant, uncertain economy.

EICHER: And the UAW strike. We’re now in Week 5. Does that remain a big story?

BAHNSEN: Yeah, I don't think that the strike is a big story right now. I think that they have expanded in some places, they chose not to expand in others. I really think that bond yields are the big story right now. And I think that we saw with oil prices, they spiked up 4 or 5% at the beginning of this tragedy in Israel, and then they came down a few percent on Thursday, and then came back up again Friday. But if they stay between 75 and 90, that's not really a zone where if it goes well below 75, you start wondering, has demand collapsed? And if it starts going well above 90, there's definitely going to be a huge economic impact in this little range that it staying. It may be the sort of sweet spot, but it's unlikely it does. I think it will end up breaking one way or the other. And that becomes another indicator - bond yields and oil prices, my friend.

EICHER: Ok, David Bahnsen is founder, managing partner, and chief investment officer of The Bahnsen Group. You can keep up with David at his personal website, Bahnsen.com. His weekly Dividend Cafe is at dividendcafe.com.

Thank you, David!

BAHNSEN: Thanks so much, Nick.

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