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Stagflation

December 18, 2007

Mark on the markets.

Stagflation

Over the last weekend, our former Fed chairman Greenspan made a statement that he could see signs of stagflation. Stagflation is by definition: Sluggish economic growth coupled with high inflation and unemployment.
Stagflation puts the Fed in a tough situation when trying to manage interest rates through a difficult time in the economic cycle. Last week the Fed lowered the Fed funds rate by 25 basis points and the discount rate by 25 basis points. Traders were expecting more and sold the markets, stomping their feet calling Bernanke, our Fed chair, a fool.
What was speculated is that the Fed had a chance to see the inflation numbers due out later that week that showed higher inflation. If the Fed lowered rates more aggressively it would contribute to even higher inflation.
Inflation is when goods and services cost more relative to the value of currency, which has been devalued even more by high energy and commodity cost. Lowering interest rates makes this devaluation of currency accelerate.
Deflation is what Japan went through not so long ago. This is when goods and services lose value relative to currency. Until recently, Bank of Japan had a zero percent lending rate because no one wanted to borrow money for deflated assets, i.e. real estate.
Stagflation may be the worst of all scenarios. High inflation rates based on the core inflation rate, energy and food. Deflation based on real estate values, autos and other like assets.
Even though we are likely to see “relief rallies” in the global equity markets, my belief based on technical data (charts) and fundamental analysis, is that the global markets are in for some tough sledding for at least the first half of 2008.
There are a few places to hide in markets like this, but I would recommend high cash holdings and hedging existing positions with ETF’s that are designed to go up when the equity markets go down.
All this is part of a normal cycle in the stock market that is long overdue. Do not be complacent with your money and do nothing if you have money in the markets. Adjust your portfolio of investments for what is coming, not what has been.

Mark Patterson is a registered investment advisor with MHP Asset Management LLC, and can be reached at 447-1978 or Mark@MHP-Asset.com.