We've Spotted the D-Word

Something new for the table... Next stop: deflation?... A top CEO says it's coming... Bad company... The Fed doesn't know... Get ready now for the next panic...

The 'bad news' bulls are still running...

We've talked here lately about how "bad news" for real people (in the form of an unemployment rate inching higher) has been interpreted by enough investors as "good news" for stocks... for now.

The idea is that if the economy is weakening just enough, and the pace of inflation is no longer accelerating, that means the folks at the almighty Federal Reserve will stop hiking interest rates.

For the last year or so, the central bank has wanted to see "disinflation," or a slowing pace of inflation. Fed Chair/noted astrologer Jerome Powell has said the bank wouldn't change its inflation "fighting" stance until this was the case.

Well, the latest data shows disinflation to be happening right now. It may not have shown up yet on every grocery store shelf across America... but in general, prices for goods and services aren't rising by as much as they were in 2021 and 2022. Thank goodness for that.

Mr. Market has been partying in response for the past few weeks. Federal-funds-futures traders are betting with nearly 100% certainty that the Fed won't hike rates at its next meeting in a few weeks.

We've seen bond yields drop – with the 10-year Treasury falling below 4.4% from near 5% just a few weeks ago – and a weaker dollar. These factors have translated into a tailwind for stock prices. The benchmark S&P 500 Index is up roughly 10% since its last low on October 27.

It's all good, right? Sure. Until you think about the next thing... Today, I (Corey McLaughlin) want to throw a large risk to consider on our Digest discussion table.

Next stop: deflation?...

We could be approaching the next part of the post-pandemic U.S. economic story... That is, when the dominant market narrative of cheering disinflation turns to one of fearing and dealing with deflation.

Deflation is when nominal prices go down. That would be great for real people on a budget who need to buy things, but not so great for businesses interested in growing profits in an environment where everything got way more expensive the past few years, labor included.

Deflation happens when tires or balloons pop. The same could be said for the economic bubble we saw begin in early 2020. Trillions of dollars in stimulus were injected into an economy that had already enjoyed a decade of abnormally low interest rates that juiced the market.

You could argue the economy needs a period of deflation to get back to "normal," whatever that is these days. But even if that is true, it won't happen without painful consequences. You could also argue that the pace of inflation will keep on gliding down ever so neatly forever – or other outcomes.

And I encourage you to make those arguments. We don't have a crystal ball, and I'm also not speaking for any or every Stansberry Research analyst or editor's view. But in any case, I think it's at least wise to consider the risk of deflation for the economy ahead.

Deflation would mean the inflation nightmare is over. But it also would mean a recession, like possibly much higher unemployment if enough businesses decide to cut enough costs in response. But it doesn't have to be all "bad news," either.

If you're a shorter-term trader like our Ten Stock Trader editor Greg Diamond or DailyWealth Trader editor Chris Igou, tumultuous periods can present tremendous moneymaking opportunities if navigated correctly. That can include but is not limited to bearish trades.

The same goes for longer-term investors who have cash on hand and are ready to buy things like shares of high-quality stocks or the right corporate bonds when it seems like the popular move of the day is to "sell everything" and flee the financial system.

The time to get ready is now. I have mentioned before that we've seen deflation in certain sectors of the economy already. But we might be getting closer to it becoming widespread...

We've heard the D-word...

During quarterly earnings calls last week, executives at some of the largest retailers in the U.S. said inflation continued to show signs of cooling. Walmart's (WMT) CEO Doug McMillon went as far as to suggest we'll experience a period of deflation.

While the retail giant's grocery and general merchandise prices are up from a year ago, price growth is beginning to slow, he said. McMillon even suggested consumers could see growth reverse for items such as canned goods and consumables.

Walmart is not alone in its observation. Home Depot (HD) is also expecting prices to stabilize in the months ahead. Chief Financial Officer Richard McPhail said that he thinks the "worst of the inflationary environment is behind us."

McPhail didn't go as far as to say the word "deflation." Home Depot has witnessed prices settling both above and below levels witnessed in 2022, revealing a trend of stabilization for the business. This is a "good news, bad news" sort of observation.

While this stabilization may hurt retailers' sales numbers in the short term, Home Depot expects the relief to free up consumers' cash for more discretionary spending in the future.

It could take time before consumers feel the effect of easing prices.

And it won't immediately happen across the board for goods and services. Walmart noted that while prices of dairy, eggs, chicken, and seafood are down from last year, beef remains higher than it was in 2022.

Prices of goods aren't the only factor to consider in the post-pandemic environment either. Ted Decker, the CEO of Home Depot, pointed out that while paint could be $10 cheaper than it was a year ago, hiring painters could still be expensive.

The shared observations from two of the nation's largest retailers suggest that relief to the consumer is approaching. The comments underscore the effects of the Fed's fight to end decades-high inflation.

However, if Walmart's CEO is correct and we move into a period of deflation, it could change more than just the prices we see on the shelf.

Consumers will see relief in their pocketbooks as prices fall for things like groceries and energy. But as widespread prices fall, business health could begin to suffer. The inflated revenue businesses have come to know from higher prices will begin to vanish.

This can lead to higher unemployment, declining salaries, and choppiness in the market as companies adjust to reduced earnings.

It's not just anecdotes from a few CEOs...

Various indicators are (still) signaling a slowing economy... I've mentioned unemployment rising from its cycle "low" and the yield curve "reverting" over the past few months. These behaviors are typical pre- or early-recession behavior – and the context is not pretty.

Here's a telling example from Crescat Capital macroeconomic strategist Tavi Costa, a frequent poster of insightful market commentary on X (formerly known as Twitter). He shared an update on the Conference Board's Leading Economic Index for the U.S., which considers various metrics like employment, income, manufacturing, and trade data...

That's not great company: an era of stagflation and the great financial crisis. In other words, don't give up on the recession yet. And don't think deflation can't or won't be a feature of it.

The Fed doesn't know...

In case you think the Fed has any control over the fine line between disinflation and deflation, it doesn't. The horse is out of the barn. Rates have already gone from near 0% to above 5%, and consumers and businesses are facing a higher debt bill than they expect or realize.

Somehow, the last pandemic-related stimulus programs still only elapsed relatively recently. Like everyone else, the Fed is waiting to see what will happen next.

Ultimately, perhaps sometime next year, this might mean the central bank could decide to cut interest rates to juice the economy. But that would likely happen only because things have gotten so bad that the central bank feels it's necessary... and that stocks have likely already fallen generally.

Then there's the risk of high(er) inflation rebounding all over again, plus a U.S. government deficit that stands at $33 trillion and counting. It's a messy picture.

We're not all the way to that point yet, though. Stocks can still run higher as enough investors cheer the apparent end of the Fed's inflation fight. As we wrote just yesterday, the "pain trade" today is in favor of the bulls. Enjoy it.

But don't get caught off guard by what may be coming around the next turn in the new year. Eventually, "bad news" will be bad for the markets as times get even tougher for more and more real people and businesses.

At that point, counterintuitively once again, this can be good news – at least for folks with enough cash on hand. They'll be able to pounce on buying chances (or opportune bearish short-term trades) when the rest of the world is inclined to panic.

New 52-week highs (as of 11/20/23): Adobe (ADBE), Amazon (AMZN), Cameco (CCJ), Copart (CPRT), Crispr Therapeutics (CRSP), CyberArk Software (CYBR), Denison Mines (DNN), Fidelity National Financial (FNF), W.W. Grainger (GWW), ICON (ICLR), Intel (INTC), Ingersoll Rand (IR), Microsoft (MSFT), Motorola Solutions (MSI), Micron Technology (MU), Novo Nordisk (NVO), Qualys (QLYS), Ryder System (R), VanEck Semiconductor Fund (SMH), Spotify Technology (SPOT), Stellantis (STLA), Sprott Physical Uranium Trust (U-U.TO), Global X Uranium Fund (URA), Sprott Uranium Miners Fund (URNM), and Visa (V).

In today's mailbag, feedback on Ten Stock Trader editor Greg Diamond's Masters Series essay from Sunday... Do you have a comment or question? As always, e-mail us at feedback@stansberryresearch.com.

"Greg Diamond's article regarding complete victory over inflation for the Fed [on Sunday] is an interesting and excellent article if the only thing one is focusing on is monetary policy with a disregard for fiscal policy.

"IMO today's inflation has been caused solely by the federal government's misguided spending since January 2021 to fundamentally change America. Until such massive abuse of fiscal spending is stopped, inflation will get back to 2% only when the economy is in a state of deep depression. We may have periods of high inflation leveling off at certain elevated levels or even somewhat reduced levels during an election year, but until abusive levels of spending are curtailed inflation is going to continue rising.

"Fighting inflation with inflation-causing increased interest rates is foolhardy and downright stupid behavior that is designed to create a smoke screen for the masses to make them think the federal totalitarian government really cares about people." – Subscriber Michael U.

All the best,

Corey McLaughlin with Tyler Jarman
Baltimore, Maryland
November 21, 2023