13.04.2021 – Special Report. The age-old stock market rule is already part of trader folklore. And it is more relevant than ever: the Federal Reserve wants moderate inflation, and it will get it. By continuing to flood the market with money. At least that’s what Goldman Sachs believes. We shed light on the reasons behind this – and let the bulls have their say today.
The Fed gets what it wants
Brave new dollar world: The Federal Reserve floods the market with vast sums of dollars. Other central banks are also opening the floodgates to eliminate the deflationary shock triggered by the Corona Reactions. And governments everywhere are launching stimulus programmes. Of course, this increases the risk of bubbles forming. And a disastrous explosion of the euphoria bull market. But who knows when that will be.
Fittingly, Goldman Sachs just informed its clients. Analyst David Kostin wrote in his “Weekly Kickstart” that three macroeconomic factors have dominated the market since the beginning of the year: Interest rates, inflation, taxes. The most important is interest rates. The investment bank expects “more of the same”: stable interest rates at zero (according to the Fed until 2024), a rise in real interest rates and roughly a break-even inflation rate – which amounts to a steeper yield curve. And: “what the central bank wants is usually what it gets, sooner or later. “
The inflation target has not yet been reached
Then it gets interesting with a rare admission in the financial market: about a year ago, the Fed sent a signal to companies and fund managers with its powerful intervention that it was willing to provide liquidity under any circumstances. And in doing so, it pulled in a floor in the stock market that was ultimately the star block for the record run of the S&P 500. The translation: the Fed is very much manipulating the stock market. And it will not allow a crash.
And the Fed has not yet reached its goal in terms of moderate inflation, Goldman continued. We think: Stock prices could therefore continue to rise. Kostin noted: “the Fed wants higher inflation. It has rejected pre-emptive tightening and instead under average inflation targeting wants core PCE inflation to average 2% over time. Core PCE averaged 1.45% year/year during the first two months of 2021. Although inflation readings are likely to be elevated during the next few months -peaking in April at 2.3% -it is likely to be transitory, and below 2.0% on a sustainable basis until 2023, according to the forecasts of our economics team.” In plain language: The inflation rate measured in terms of personal consumption expenditures is still below the long-term core rate of 2 percent.
Money sponges soak up capital
We think: So the Fed wants to force investors to invest. And at the same time prevent the impoverishment of the masses through rising prices. A moderate inflation target of 2 percent would indeed combine both goals. And that would give us more room for cheap money. And rising share prices. And as long as overheating in consumer prices is to be feared, liquidity sponges such as stocks, real estate, precious metals or cryptos are likely to play into the Fed’s hands through rising prices. This means that a ban on gold ownership like in the US during the Great Depression or a Bitcoin ban would not be an option for now.
Healthy rise in bond yields
But what about the rise in US government bond yields that shook the market in between? Max King of Money Week sees it as a natural process: “It was absurd that, at the start of the year, 40% of government bonds and 10% of corporate bonds traded on negative yields. Their subsequent rise to 1.7% for 10-year US Treasuries and 2.4% for 30 years is both as expected, and healthy. “The quite healthy rise in yields fires a warning shot at governments and overconfident central bankers – it destroys the illusion that they can control the market. International demand is still stabilising the dollar, but the Fed is skating on thin ice. Here, too, the bond market is a welcome warning. Otherwise, the author advised to ignore the pessimists and invest in quality stocks.
Our conclusion: Of course, the Fed is unlikely to want hyper-inflation, as some cautioners see coming. If inflation really explodes, the stock market will indeed run into a violent repricing. And of course the bursting of investment bubbles is only a matter of time. But perhaps only in some dark corners of the financial market. Which brings CFD traders short opportunities. Anyway: Keep an eye on the news – Bernstein Bank wishes you successful trades and investments!
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