On February 14, the markets continued their malaise.
Why? Because certain inflation figures came in higher than expected.
The inflation rate for January was 6.4%, slightly lower than December’s 6.5%. But the number was still higher than the forecasted 6.2%.
And on Wednesday of last week, investors and traders waited with bated breath for the minutes of the Federal Open Market Committee (FOMC) meeting on February 1.
The minutes are usually released around three weeks after the meeting date. The meeting resulted in a 25-basis point rate hike.
That pushed the central bank’s key rate to a range of 4.5% to 4.75%, its highest level in 15 years.
Bulls sought any words confirming the Fed would stay in what I call Stage 1 (a reduction in the size of rate hikes) on the path to Stage 2 (a pause in rate hikes).
Bears awaited support for a possible 50-basis point rate hike in the next FOMC meeting.
As it turned out, the minutes delivered on both. That’s why the markets, which hate uncertainty, dropped in response. The S&P 500, for example, is down 2.6% since February 1.
According to the Fed, inflation is still “well above” its 2% target. But certain members of the Fed were pleased about the “reduction in the monthly pace of price increases.” Score one for the bulls.
The FOMC minutes also validated the bears. They showed that the labor market was still “very tight” and that the FOMC was concerned about “continuing upward pressures on wages and prices.”
In other words, the minutes didn’t say anything different from what Powell already said on February 1. And that brings me to why the Fed’s inflation-fighting policy is not effective, and how you can benefit from elevated prices…
The Fed’s Zone of No-Control
The Fed can’t control prices by decree. It can’t cut jobs or wages.
The only thing the Fed can do is raise rates to tighten the money supply and make the cost of money more expensive.
Although, the Fed is great at playing a game of hope. It hopes that prices will magically come down and that the economy won’t tank as a result of its policies. And if a million jobs get lost along the way – well, as Powell would say – that’s the price we have to pay in the big inflation battle.
Now, despite some declines in broad inflation measures, like the Producer Price Index falling 3% since September, the Fed’s fastest rate hiking spree hasn’t really crushed prices… except for housing.
To illustrate why, look no further than the price of eggs.
What Does the Price of Eggs Have to Do with It?
As you may have heard everywhere, egg prices are at record highs.
So much so that people are buying chickens to alleviate the cost.
In December, the CPI figures revealed that eggs had the highest month-over-month inflation of any other category.
Now, egg prices have not soared due to the Fed’s rate hikes. Instead, they are at record highs because the egg industry is suffering from an epic case of avian (or bird) flu. In fact, it’s the worst outbreak in national history.
But this price behavior illustrates a key point about the Fed’s true inability to fight inflation. Many forces outside of the Fed’s control impact prices.
First and foremost, prices are affected by supply and demand. If supply is low and demand is high, prices rise.
If there were no Fed, this would still be the case.
Again, the supply of eggs was hurt badly over the past year due to the bird flu outbreak. But eggs weren’t the only product to be hit by supply problems since Covid.
During that time, the Fed was on a rate reduction and money-printing spree. So despite low interest rates, supply chain problems still made prices go up. It’s a perfect example of the external factors driving inflation.
Plus, when the Fed slashed rates to zero and printed trillions of dollars in the wake of the financial crisis of 2008, overall goods and services inflation didn’t go ballistic. Neither did egg prices.
Despite the little power the Fed has over prices, it’s now targeting broader inflation with a one-size-fits-all approach. But a single solution won’t work.
So while certain inflation data is improving, it’s still not enough. And when the Fed realizes its rate hikes won’t bring down inflation to the 2% desired level, it’ll pivot to Stage 2 by this summer, where it’ll pause rate hikes.
Profit From Eggs and the Fed’s Inability to Fight Inflation
The Fed has jacked up borrowing costs to try to reduce demand for goods and services, in the eventual hope that this will lead to lower prices.
But as I explained above, it’s not working. While consumer spending has slightly slowed, consumers’ demand for goods is still high. Too many external factors remain in play from the bird flu, lingering supply chain disruptions left over from Covid, and other geopolitical factors.
So, the Fed truly cannot impact the price of fuel or food, or anything attached to a supply chain that is sensitive to other factors than cash flow.
Yet, the Fed is still hellbent on fighting something it can’t really control. This has repercussions from higher costs of existing debt for most people to corporate uncertainty and economic fragility. It also means that at some point, inflation will linger despite the Fed’s effort. So rates will eventually neutralize, or Stage 2 will occur.
Meanwhile, though egg prices have dropped a bit, the egg supply in December of 2022 was down 29% compared to the beginning of the year. To hedge against the inevitable, lingering inflation, consider the stock Vital Farms (VITL).
We don’t usually recommend stocks in these pages, but this one has upside as long as the price of eggs remains high. Plus, it’s a small business in one of my favorite U.S. cities: Austin, Texas.
Regards,
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Nomi Prins
Editor, Inside Wall Street with Nomi Prins