Authored by Doug Kass via Seabreeze Partners,
Surprise #7: Stagflation Emerges in the Last Half of 2018 and the Fed Tightens Four Times
Though economic growth slows, wage growth begins to spike.
When unemployment falls to 3.5% a labor shortage develops and unit labor costs rise by 4% by the end of 2018.
Oil spikes to $80 a barrel as underinvestment meets geopolitics meets some kind of nature-driven problem in the oil supply chain.
The Fed sees itself behind the curve and tightens four times. The 2s/10s curve inverts and the vision of a stagflation-driven recession becomes clearer.
Meanwhile the Fed no longer is a liquidity provider. Netting out just Fed and European Central Bank (ECB) liquidity, January will see a net addition of $15 billion compared to $50 billion this past September thru December. By the second quarter it’s just $5 billion per month and by the third quarter it goes negative. Investors fail to appreciate how chaotic this central bank unwind will be at the same time we have historic valuations.
Japan and Europe begin seeing the inflation that the Bank of Japan (BOJ) and ECB desperately want.
– Kass Diary, 15 Surprises for 2018
On Monday, in “The Cost of Everything is Rising — And Profit Margins Will Soon Suffer” I made a clear warning that corporate profit margins are at risk.
Last week, a number of consumer packaged goods released ugly EPS results that featured the growing margin pressure.
Yesterday, AutoZone and Toll Brothers share prices fell precipitously in response to warnings – during their respective conference calls – that margins are now suffering.
I expect more of these announcements over the balance of the year – with a steady diet of warnings about wage and feedstock cost increases.
Overnight, European PMIs predictably came in much lower than consensus expectations – raising another recent concern of mine … that global economic growth signposts are growing more ambiguous.
The emerging debt markets have been thrown into chaos recently – Italy and Turkey are sowing the seeds of a new European debt crisis. (When their yields flip positive, the European recovery will be over).
These are yet more warnings of trouble ahead.
These are the ingredients of a toxic market cocktail.