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  • Writer's pictureGeoff Wells

Inflation on the Mind

The start of this year has been plagued by several uncertainties in the markets. One of the major topics on investors’ minds has been inflation and how it is affecting the U.S. economy. Early readings on inflation this year were higher than expectations and this has spooked investors in both the stock and bond markets. Friday morning, the Federal Bureau of Labor Statistics released inflation data ( which showed that general prices rose 8.6% year-over-year, which is the highest reading since the period ending December 1981. The markets are reacting negatively to this new data point. Inflation data is released by the Bureau of Labor Statistics and a widely followed measure is the Consumer Price Index for All Urban Consumers (CPI-U). An index of a basket of goods and services paid by urban consumers is what makes up this price measure. According to the press release:

  • “The CPIs are based on prices of food, clothing, shelter, fuels, transportation, doctors' and dentists' services, drugs, and other goods and services that people buy for day-to-day living. Prices are collected each month in 75 urban areas across the country from about 6,000 housing units and approximately 22,000 retail establishments (department stores, supermarkets, hospitals, filling stations, and other types of stores and service establishments).”

The weights of each one of the named categories are intended to reflect the relative importance in spending by the population group. The All Urban Consumer group represents about 93% of the U.S. population. In the May 2022 release, all categories covered experienced a rise in prices. However, some categories appeared to drive this number higher than others. For example, when looking at the measure for “All Items less Food and Energy” the rise was 6% versus the overall rise of 8.6%. Energy prices have been a major category driving prices higher with a 34.6% increase. According to the “Commodity Markets Outlook,” in April 2022 by the World Bank (, prices of both energy and food commodities have been heavily impacted by the war in Ukraine and war-related trade and production disruptions. Russia and Ukraine have been large net exporters of energy and food to other areas of the world and this conflict has caused prices to respond negatively. At the same time, we should recognize energy prices are a major input to many of the other categories tracked by inflation. For example, to produce fertilizer, natural gas is used to produce the final product, which impacts food commodity prices. The question is where do prices go from these already elevated levels. The following chart shows some of the changes detailed in the recent release:

How is the Federal Reserve Responding?

The Federal Reserve is the central banking system of the United States. It has a three-part mandate by Congress for the goals of: 1) Stable prices (i.e., inflation under control); 2) Maximum Employment; 3) Moderate long-term interest rates Since inflation data is higher than their targets (around 2%) for price stability, they have stated they would use their monetary tools to try to tame the rise in prices. The major tools they use to control growth in the economy are the control of the Fed Funds rate (which is the overnight rate at which depository institutions lend funds to other depository institutions overnight) and through open market operations (buying and selling of securities in the open market). As such, the Fed has recently announced they will be pulling back on the purchase of U.S. Treasuries in the open market, which had helped to keep long-term interest rates low. They have also announced they will be hiking the overnight lending rate higher. Both these actions are referred to as a “tightening policy” and are expected to slow the economy by raising borrowing costs (interest rate levels). Since inflation is indicative of an economy where there are too many dollars chasing few goods, the Fed is hopeful they can slow the growth rate, without causing a recession. The recent weakness in both the stock market and bond markets shows investors’ uncertainty in their belief that the Fed will be successful in this goal. Prices of financial securities have already priced in investors’ expectations of what will happen. Therefore, we always caution against the allure of trying to “time the market” as it implies that we know more than the aggregate market. We don’t believe investors can do this consistently. As such, we continue to believe the best path forward is to “stay the course” with a commitment to your long-term financial plan.

Should I be investing in the markets if there is so much uncertainty?

The article below is shared from a recent Dimensional Funds newsletter. We found it particularly informative in providing long-term market context.

· Turn on a financial news channel these days and it’s likely someone is providing various reasons on why it is not a good time to invest in the markets. Many investors, bombarded by the influx of anxiety-inducing headlines, may be questioning if they should start investing or completely exit the markets. As with most things in life, however, there are things you can control and things you can’t. This is also true with investing.

· The good news about investing is that markets have rewarded investors over the long term. But over the short term—as anyone who has paid attention knows—markets go up and markets go down. We have seen this to an extreme through the first half of 2022.

· However, this volatility should not deter us from investing, but rather it highlights the importance of looking beyond short-term returns and being aware of the range of potential outcomes.

· Dimensional Founder and Executive Chairman David Booth recently shared his perspectives on the merits of long-term investing. Imagine it’s 25 years ago, 1997: J.K. Rowling just published the first Harry Potter book. General Motors is releasing the EV1, an electric car with a range of 60 miles. The internet is in its infancy, Y2K looms, and everyone is worried about the Russian financial crisis.

· A stranger offers to tell you what’s going to happen over the course of the next 25 years. Here’s the big question: Would you invest in the stock market knowing the following events were going to happen? And could you stay invested?

  • Asian financial contagion

  • Russian default

  • Tech collapse

  • 9/11

  • Stocks’ “lost decade”

  • Great Recession

  • Global pandemic

  • Second Russian default

· With everything that’s happened, would you have gotten into the market? Gotten out? Increased your equity holdings? Decreased them? · Well, the data tells us a compelling story. From January 1997 to December 2021, the US stock market returned, on average, 9.8%1 a year. In other words, a dollar invested at the beginning of this period would be worth about $10.252 at the end of the period. · What can we learn from this anecdote? There were clearly a lot of negative surprises over the past 25 years, but there were a lot of positive ones as well. The net result was a stock market return that seems very reasonable, even generous. · Investing in the stock market is always uncertain. Uncertainty never goes away. If it did, there might not be a reward. It’s because of uncertainty that we have a positive premium when investing in stocks vs. relatively riskless assets. · Recent volatility and disappointing results have tested many investors' faith in sticking true to their investment philosophy, but we know that reacting emotionally to volatile markets may be more detrimental to portfolio performance than the drawdown itself. · While there is no silver bullet, understanding how markets work and trusting market prices are good starting points. By adhering to a well-thought-out investment plan, ideally agreed upon in advance of periods of volatility, investors may be better able to remain calm during periods of short-term uncertainty.

1. In US dollars. S&P 500 Index annual returns 1997–2021. S&P data © 2022 S&P Dow Jones Indices LLC, a division of S&P Global. All rights reserved. 2. Data presented for the growth of $1 are hypothetical and assume reinvestment of income and no transaction costs or taxes. This value is for educational purposes only and is not indicative of any investment.


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