Stocks vs. Inflation: Leaving the Inflation Herd Behind

Publisher’s Note: Below are the first 500 words of the December issue of Foundational Profits. It explains the current macro situation. Premium members received it last week. The portfolio that stems from this sort of analysis has beaten the S&P 500 six out of the past seven years. It will beat it again this year — even as the S&P delivers record annual performance. Beating average is what drives what we do around here. Watch this video to get the stock and fund recommendations that accompanied this issue.

— Nick

The S&P 500 is up some 25% for the year — more than twice what is considered an “average” return — with just a few weeks to go until the calendar flips. 

You could call that an inflated return. And you’d be correct. 

This year saw rampant inflation across multiple assets that have now appeared in products that everyone has to buy. The inflation headlines are now inescapable. 
For over a year the Fed and both the Trump and Biden administrations swore there was no inflation. 
Team Transitory — which included mainstream entrenched economists and financial reporters — took to the airwaves and Twittersphere to tell everyone that inflation would be short-lived. 
I told you they were wrong all along as we transferred that inflation to our accounts via energy and metals shares.
And now that everyone is on the inflation bandwagon… your contrarian editor wants to jump off. 
In short, the herd is here. And we need to stay ahead of it. 

What’s Happening?

The short answer is the dollar is strengthening and bond yields are falling. 

This means that main market currents are changing because the dollar and yields also affect equities and commodities. 

For over a year the dollar has failed to move higher than 94 on the DXY. It has now moved to above 96 in the past month. That is a big move for the global reserve currency. 

us dollar chart

I don’t know if the breakout in the dollar continues, but I do know that it’s partly what’s giving commodity prices pause. 
Meanwhile, bond yields, which have been inflating higher the entire time the establishment was telling you there was no inflation, are now failing to break out further. This is happening at the very same time that the herd has finally caught up to the inflation narrative. 

us 10y yield

This means inflation is cooling off just as it hits store shelves and headlines everywhere. The public is always the last to know, which is why producer prices lead consumer prices.
So while the real effects of money printing will still be felt by consumers via higher prices… the market factors that denote that inflation are moving the opposite way. 
We also have to look at volatility. And not just the VIX, which is for the S&P. It certainly perked up after Thanksgiving and into early December, but has since settled down in a big way, showing it was another buy-the-dip moment for the stock market.
More interesting is crude oil volatility (OVX), which left the 30s behind and went straight to 100 without passing go. It hasn’t been that high since the onset of the pandemic, when oil actually printed a negative price, and remains relatively elevated. This is our cue to exit the oil and gas space.

oil volatility chart

Taken all of what I just laid out, it looks like stocks go higher driven by new sectors while commodities, particularly energy-related commodities, take a bit of a breather.

Click here for the specific recommendations I’m making right now.