Inflation Is Bad – Why Is the Market Up?

December 10, 2021

Posted 9:30 AM ET – The market is near the all-time high and gains will be hard fought from now until year end. Momentum and seasonal strength are keeping buyers engaged, but the FOMC meeting next week will temper the urge to buy near the all-time high.
For more extensive commentary, please read my comments from Thursday.
A hot CPI this morning (.8%) sparked a positive market reaction. How is this possible? Higher inflation should lead to higher interest rates and higher interest rates should be bad for stocks – right? That is true during the initial stages of Fed tightening, but there are a few forces in play that are trumping that headline news. Yesterday I mentioned corporate buy backs and they are happening at a record pace ahead of tax changes. Today is the last day for that surge according to Bank of America. There could have also been pent up buying and those traders were going to wait for the reaction to the CPI. As inflation rises it drives real returns on bonds (yield minus inflation rate) further into negative territory and that makes stocks more attractive on a relative basis. There is also the notion that the Fed might accelerate tapering, but they will not tighten.
I am sure the talking heads on CNBC will find even more excuses to justify the rally. The bullish reaction does not make sense to me so my explanation is simple. There is a ton of cash looking for a home. Even at extreme valuations, stocks are still the “best game in town”. There are also fewer shares due to stock buybacks and we are competing with corporations to buy those stocks.
The next FOMC meeting is on December 15th and it is an important one. We can expect tapering and that could cause some nervous jitters before the release. The Fed does NOT want to tighten, but they have removed the phrase “transitory inflation” from their statements. They have admitted that inflation is stronger than they expected and that the pace of tapering will be accelerated. Inflation will force their hand.
Swing traders should manage their out of the money bullish put spreads. Your opportunity was last week when the market tested support at the 50-day MA. At this stage I would not be adding to your long exposure.
Day traders should not chase the open today. There is a chance for a gap and go, but there is no way I will buy a gap higher this close to the all-time high. If we have a compression or a dip I will be looking for stocks with relative strength. If I see red candles stacked consecutively with little to no overlap I will short (gap reversal). I don’t care about the CPI or the reaction; I am just going to watch price movement. I have seen two-sided price action so I am ready to trade in either direction. Stay flexible.
Support is at $468 and resistance is at the all-time high.
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