Low Inflation, High Market

The combination of lower fuel costs from the Lebanon/Israel ceasefire and a possible inflation retreat was powerful today.

The market loved today's low inflation report. And it was hugely surprising: the consensus was for a 0.3% rise but it came in at 0.1%. Stripped of food and energy, it dropped to -0.3% versus the consensus of 0.2%.

The PPI measures what business pays to manufacturers whereas the CPI measures what consumers pay. They move in similar directions, so CPI will probably be up but only slightly.
The CPI is much more important because that is the Fed's metric - it comes out tomorrow.

The market was looking for an excuse to be optimistic and it came. A 0.5% drop in inflation is incredible (the difference between expected and actual).

Here's an interesting thing to note. In the 12 months thru June 2005, CPI was up 2.5%. For the most recent 12 months it's 4.7%. If we remove the period July-September 2005, the last 9 months plunge to 2.3%. So we aren't really been in a hot inflation period since last summer. Oil is the only thing that could change that.

The CPI is predicted to be 0.4% and 0.3% core. Considering the PPI, core CPI is likely to be 0%. So inflation is likely running at the higher end of what the Fed would like to see but not at a level requiring action.

The expectation then is that we are done with rate hikes and the economy can move forward. The attention will shift to fears about housing.

More importantly, I think we now see why the equity markets have been so lousy: foreign equity purchasing dropped and bonds increased. And that's despite a falling dollar which would make US equities more attractive.

I think that trend will continue, and maybe exacerbated by a falling housing market and relatively high interest rates. This is not a good trend for the US stock markets

I think we are riding a wave and I will put out target stocks tomorrow.