Broker Check

Overoptimism: A tale of caution in 2023

| February 02, 2023

       Overoptimism can be as dangerous (or more) as over pessimism, that’s in a nutshell Jerome Powell’s message following the past FOMC meeting, where the Federal Reserve raised interest rates by 0.25 percentage points to 4.75%. While making it clear that the economy is no where near out of danger, the Fed slightly signaled signs of a near future pivot by reducing its .50bps increase rate from last year. Investors should be more cautious than happy. Here is why.

       Investors are ignoring many of the indicators and focusing on only one improving aspect of our economy, which is the slight decline in inflation. Others focus on the short-term shifts of the major indexes. Yes, the S&P 500 rose 1% immediately after the Fed’s announcement. But comments such as “inflation is headed in the right direction”, or “the economy is not as bad as we thought”, that are becoming increasingly common by analysts and even the International Monetary Fund (IMF), create a misleading sense of calm and recovery, when in fact there’s little evidence supporting those assumptions.

       The Fed uses the Consumer Price Index (CPI) to measure the changes in prices of purchases for consumption. This measure analyzes 8 sectors: Food & Beverage, Housing, Apparel, Transportation, Medical Care, Recreation, Education & Communication and Other Goods & Services. During the Fed’s announcement, Chair Powell explained that inflation only began to subside in the “Goods & Services” sector, which is only 14% of the entire measurement. Whereas in the other sectors such as Housing, over 40% of the basket, inflation decline has not even begun.

       Speaking of the Housing sector, one of the largest homebuilders in the country KB Home, released their end of year earnings disclosing an alarming 68% of home cancellations in 2023. The housing sector is considered a “lagging” indicator, (a measure of the past results). But it can too be consider a “leading” indicator, in the sense that changes in the housing sector can give us some indication of future economic outlook. I don’t believe the housing sector, as well as the Food & Beverage, Apparel and Recreation sectors have experienced the full brunt of interest rate hikes and stubborn inflation.

       The stock market is in not a sole reliable measure of our economy, as it’s very reflective of investor sentiment. Changes in the stock market do not significantly affect most of the population, because only about 14% of American families have direct stock investments, according to the Federal Reserve, while 52% have some degree of stock market exposure in their retirement accounts through work. Jerome Powell is not concerned about the stock market, despite Wall Street’s pressures. There are more concerning economic factors beyond the stock market and ignoring them can be regrettably foolish.