The June consumer and producer price index data allowed the Fed to increase the short-term Fed Funds Rate by 75 basis points for the second consecutive month. The US central bank is now on vacation and will not raise rates again until September.
Meanwhile, one day after the latest Fed Funds Rate increase from 2.25% to 2.50%, the gross domestic product data for the second quarter show that the economy contracted by 0.9%, following on the heels of a 1.6% decline in Q1 2022.
Economic textbooks define a recession as two successive quarterly GDP declines. The Fed now faces a challenge, rising prices, and economic contraction, the ingredients for stagflation. While the economists and politicians debate the proper path of monetary and fiscal policies, two markets signal that inflation is not coming down all that soon. Moreover, the potential for the US central bank to slow the ascent of interest rates has caused market participants to return to the leading precious metal and the wild and volatile cryptocurrency arena as the asset classes appear to have bottomed. The recent developments could be a bullish omen for the stock market.
Central Bank tools are limited- The Government continues to spend
- Central bank monetary policy can impact the economy’s demand side, but the supply side depends on trade and the geopolitical landscape.
- The US Fed is committed to battling the inflation it called “transitory” in 2021 with higher interest rates. The latest GDP data, signaling a recession, could cause the central bank’s enthusiasm for hawkish monetary policy to decline over the coming months.
- A slimmed-down Build Back Better legislative initiative and other factors mean government spending will continue to rise.
- Two markets are signaling less concern about interest rate hikes over the past weeks.
A significant technical event in the gold market on July 21
- Gold is a traditional inflation barometer hybrid between a commodity and currency.
- Central banks, governments, and monetary authorities validate gold’s role in the worldwide financial system as they hold the metal as an integral part of foreign currency reserves.
- Central banks have been net buyers of gold over the past years. Moreover, Russia recently declared that 5,000 roubles are exchangeable for one gram of gold.
- On July 21, the nearby COMEX gold futures contract reached a marginally higher low than the March 2021 bottom after correcting from the March 2022 record high. Gold also put in a bullish key reversal pattern on the daily chart on July 21, as the precious metal fell to a lower low than the previous session and closed above the prior session’s high.
- Gold rallied from below the $1,700 level on July 21 to near $1,800 per ounce as of August 5.
Cryptocurrencies show signs of bullish life
- Bitcoin and Ethereum, the leading cryptocurrencies, put in bearish key reversal patterns on the daily charts on November 10, 2021.
- Bitcoin and Ethereum fell to under one-third the price at the high in late June 2022.
- The leading cryptos have made lower lows and higher highs since the June 2022 lows.
Inflationary barometers say the battle is far from over
- Rebounds in gold and cryptos indicate that inflation remains a clear and present danger.
- They also signal that the market believes the US Fed will eventually realize that economic contraction is incompatible with its hawkish monetary policy approach.
- The Fed was behind the inflationary curve in 2021 and is trailing the recessionary curve in 2022.
- Stale data leads to mistakes.
The reasons why stocks could soar over the coming months
- The stock market turned higher from the June 2022 low and has made higher lows and higher highs.
- Reason one- Gold and cryptos signal that rate hikes could be unsustainable, supporting higher stock prices.
- Reason two- The US dollar index has turned lower after reaching a two-decade high in July. A retreat in the dollar supports earnings for US multinational companies.
- Reason three- The trend in the stock market turned higher, encouraging investors to return to the market.
- While bullish trends rarely move in a straight line, and periodic selloffs are likely, stocks appear to have bottomed.
- The VIX volatility index has been trending lower as the fear of downdrafts has declined.
Thanks for reading, and stay tuned for the next edition of the Tradier Rundown!