- The S&P 500 dropped 4.3% on Tuesday after an 8.3% August inflation reading.
- Some now anticipate a 100-basis-point rate hike from the Fed at the end of September.
- Lauren Goodwin, John Lynch, and Richard Saperstein share where to invest for the months ahead.
August’s Consumer Price Index reading seemed to destroy any hope from investors that inflation is rapidly on the decline.
The Bureau of Labor Statistics reported on Tuesday morning that prices were up 8.3% year-over-year in August, above the 8% economists had expected. Month-over-month, prices rose 0.1%.
The year-over-year number was down from 8.5% in July, but was still high enough to spook investors. The S&P 500 closed down more than 4% on Tuesday.
The reading was bad for stocks because it reinforced the Federal Reserve’s need to keep the pressure on with tight monetary policy, which eventually weighs on demand and helps reduce consumer prices. While reducing demand helps return price stability, it hurts corporate earnings and economic growth.
Many investors had been expecting the central bank to raise its benchmark rate by 50 basis points at its September 26-27 meeting, but a third consecutive 75-basis-point hike looks to be increasingly likely. Economists at Nomura said on Tuesday that it’s likely the Fed hikes by 100 basis points in September, and that the terminal fed funds rate would be 4.5-4.75%.
“We continue to believe markets underappreciate just how entrenched US inflation has become and the magnitude of response that will likely be required from the Fed to dislodge it,” a team of Nomura economists led by Aichi Amemiya said in a note to clients. “While the Fed did not raise rates by 100bp at the July meeting, contrary to our expectations, we think recent data will encourage policymakers to revisit whether they should increase the pace of rate hikes, considering the Fed’s commitment to data dependence.”
With the macroeconomic outlook suggesting the Fed will have to be more hawkish going forward than many had expected, investors are scrambling to reassess their portfolios.
Below we’ve compiled views from three market experts on where to invest for the months ahead with August’s CPI reading in mind.
Richard Saperstein, CIO at Treasury Partners
Saperstein said earnings and stock valuations still have to come down given an increasingly hawkish Fed amid high inflation, and is therefore underweight on stocks broadly both in the US and abroad.
But more granularly, he likes stocks with strong cash flows.
“Within equities, we remain overweight large cap technology stocks due to their stable earnings and cash flow,” Saperstein said. “As an example, Apple (AAPL) and Microsoft (MSFT) are expected to generate in excess of $200 billion of operating cash flow in the next 12 months. We see opportunities in energy-related equities, which boast elevated levels of free cash flow while providing a geopolitical hedge for portfolios.”
Lauren Goodwin, economist and portfolio strategist at New York Life Investments
Goodwin also pointed to broader downside risk for earnings and valuations ahead, and therefore likes quality, meat-and-potatoes-type stocks.
“We see equity valuations as most at risk. There has been plenty of volatility in both directions due to the uncertain trajectory in rates, but downward earnings revisions have only just begun,” Goodwin said. “As a result, we have rotated to strong overweights in high-quality value equity as a means of building resilience to volatility, and dividend payers as a means of generating yield.”
John Lynch, CIO at Comerica Wealth Management
Lynch said the market is likely still underestimating how long inflation will stay above 5%, a miscalculation that will continue to hurt growth stocks, which tend to have higher valuations.
“We continue to question market moves like [Monday’s], where optimism about ‘peak inflation and peak Fed’ drive growth and technology higher,” Lynch said. “Our positioning remains focused on value, profitable small caps, with sector exposure to both Energy and Health Care.”