The Fed's Lack of Confidence

An updated outlook from the Fed... Jerome Powell's new message about inflation... A lack of confidence... What he's still not saying... The stock market correction continues... More about AI...

Jerome Powell has finally gotten around to acknowledging reality...

Yesterday, the Federal Reserve chair admitted what we've been pointing out for a few months... The pace of inflation is running too "hot" for the Fed to have a legitimate argument for cutting interest rates anytime soon.

At the end of 2023, the prevailing market narrative was that not only would the Fed lower its suggested bank lending rate in 2024, but that multiple cuts would occur by the year's end. As we've been reporting lately, though, that story has been changing...

Annualized inflation numbers are on pace to reach 5% rather than the Fed's 2% goal... the unemployment rate is below 4% and dropped slightly last month... and the economy has shown good GDP growth in the first quarter.

As I wrote on April 2 in an issue titled "Something Doesn't Add Up"...

Add it up, and it would be wise to consider a future with higher inflation than many investors currently expect.

That was before another "hotter than expected" batch of inflation data was published for March.

At the start of this month, Fed officials still maintained rate cuts were coming sometime this year. But some of Powell's underlings began to change their tone over the past two weeks. Then yesterday, the big guy finally changed his messaging to acknowledge high(er) inflation.

What he said...

Yesterday, at a forum about the Canadian economy in Washington, D.C. (were Toronto or Ottawa not available?), Powell noted the strong labor market in a panel discussion. Then he said this about inflation...

Twelve-month core [personal consumption expenditures] inflation, which is one of the most important things we look at, is estimated to have been little changed in March over February at 2.8% and the three- and six-month measures of inflation are actually above that level.

Again, inflation is near 5%. Oil prices, which are up 20% since mid-December, are playing an important role. And oil prices could go even higher, especially if the warring in the Middle East continues to escalate (which has already contributed to rising freight prices globally in recent months).

Powell also reminded people what the Fed said at its last policy meeting last month, that the Fed wanted to have "greater confidence" that inflation was on pace for 2% before cutting its fed-funds rate range. Then he said...

The recent data have clearly not given us greater confidence and instead indicate that it's likely to take longer than expected to achieve that confidence...

Powell conveniently didn't acknowledge that he told Congress in early March that the Fed "can and will" cut rates this year. Then he put a positive spin on the possible future route of monetary policy...

If higher inflation does persist, we can maintain the current level of restriction for as long as needed. At the same time, we have significant space to ease should the labor market unexpectedly weaken.

There you go. The Fed is saying that inflation is too strong to say rate cuts are coming... but Powell is still adding fuel to the "Fed pause with a promise of rate cuts" trade by maintaining the likely next step for policy is still rate cuts, not a hike.

A couple of other thoughts from someone who pays more attention to 'Fed speak' than might be healthy...

First, Powell's latest comments sound like a preview of his next post-meeting speech to come at the start of May. So the following weeks may mark a period where the market can fully digest a new reality.

But not everyone has heard the new message yet.

So here's a dynamic I'll be watching for changing expectations... Have Treasury yields hit a near-term top or "resistance" level – with, for example, the 10-year yield around 4.6%? That's up nearly 1% from the end of December and nearly 50 basis points from early March, a significant move. We'll see soon enough. Either way, the bond market has been showing changing expectations for inflation and rates sooner than the stock market, per usual.

The major U.S. stock indexes also closed lower again today, and all continue to trade below their short-term 50-day moving averages... yet above their longer-term 200-day moving averages. This suggests to me that more downside in this "correction" could be ahead.

The latest round of Powell's comments also serves as a reminder that the Fed is often the last to the party and more reactive than anything.

Finally, don't forget a fact that has been included in various economic projections from the central bank since September of last year, but is rarely mentioned or discussed...

The Fed members wrote in their quarterly prognostications that they don't think inflation will get to a 2% pace until 2026. I feel like this "data point" is some kind of hidden Easter egg that nobody sees.

We'll repeat what we've been saying... It would be wise to at least consider the possibility of a hike and to pay attention to the path of inflation, unemployment, and GDP over the next few months. I will... Because Jerome Powell will be the last to tell you something is changing.

Moving on to AI...

Yesterday, I wrote about a big discussion many of our editors had about artificial intelligence ("AI") at an offsite meeting on Maryland's Eastern Shore.

Stansberry's Investment Advisory lead editor Whitney Tilson was one of many in the room... and as the talk unfolded, Whitney fired off an e-mail to a friend who he thought would have a useful, interesting take on the subject...

Whitney's friend (who wishes to remain anonymous, so we'll call him "John") founded and runs a medical-device company in Silicon Valley that's developing innovative technologies and has raised nearly $200 million in investments.

As Whitney recounted in his free daily newsletter today, John was kind enough to send an in-depth reply to some of the big questions many of us have about AI and gave Whitney permission to share some of it. He talked about one way AI can be used in health care and described why he thinks artists are at risk of losing work to AI. As John said...

As a company, we have a large number of (internal) promotional posters. In the past, we had to engage world-class artists on projects that typically took four months, 15 hours of my time, and cost $4,000. Now, using AI, these projects only take two weeks, three hours of my time, and cost $700.

Once we have our final design, we use another AI source to make the resolution 10 times better. We used to use the artists for their creativity... now we use ChatGPT for its creativity, and the artists just do the easy administrative fixes at the end to polish it up as a finished product.

AI is much more creative than the best artists in the world – it's not even close. The intricacy and breadth of the ideas is mind-blowing. It's a fabulous source for prototyping.

If I were an artist, I would be terrified.

As we wrote yesterday, there are different opinions on how AI will or will not influence the economy... and whether the AI trend is a bubble or not. But Crypto Capital editor Eric Wade believes that AI is in the "boom and take off" stage where practical-use cases for the technology will emerge sooner than many people might think.

Whitney's friend also shared his thoughts on how an investor might want to think about AI...

As an investor, AI is very different than previous waves. I don't know of many AI-based companies I can buy as a public investor (besides Nvidia [ticker: NVDA]). In this way, it's obviously very different than the internet craze in 1999, which I could invest in a large number of publicly traded start-ups.

Huge amounts of data are required to make AI work, so maybe the benefits accrue mostly not to start-ups, but to the large companies that have access to large amounts of data and computing horsepower like Microsoft (MSFT), [Meta Platforms' (META)] Facebook, and Alphabet (GOOGL).

Check out today's issue of Whitney's daily e-letter for more of John's thoughts and Whitney's primary takeaway from our discussion yesterday. I'll also be sharing more about AI here in the weeks ahead.

New 52-week highs (as of 4/16/24): SPDR Gold Shares (GLD), Sprott Physical Gold Trust (PHYS), ProShares Ultra Gold (UGL), and Veralto (VLTO).

In today's mailbag, feedback on yesterday's edition, which included talk about AI... and a look at a sentiment indicator from DailyWealth Trader editor Chris Igou... Do you have a comment or question? As always, e-mail us at feedback@stansberryresearch.com.

"Corey, Great newsletter per usual. But you hit the nail on the head in covering AI and its energy necessity. Go to the source! Amazon buys a nuclear plant [data center]. Mr. Gates files for the permits for building his first nuclear plant. It goes on and is only getting bigger from there... Thanks for making us think." – Subscriber Jeff B.

Corey McLaughlin comment: Thanks for the note, Jeff, but I won't take credit for that part of our AI discussion... I was just passing along what several of our editors are talking about when it comes to the energy and infrastructure that will be needed as AI use grows (along with potential investment opportunities or trades). We plan to write more about these topics soon.

"Thanks for the input about BPI [bullish percent index]. Could you please guide us to where we find this index?" – Subscriber Robert M.

Corey McLaughlin comment: Sure, Robert. You can find the bullish percent index readings under the ticker "BPNYA" on your preferred charting platform or website, including for free at places like StockCharts.com.

All the best,

Corey McLaughlin
Baltimore, Maryland
April 17, 2024