Professor Siegel's Weekly Commentary Archive
Prioritizing the Strong Economy
July 5, 2023
Last week we received a number of reports reflecting surprising underlying strength for the economy. This includes stronger results than expected for durable goods data and jobless claims coming in less than expected.
What surprises and disappoints me, despite inflation indicators coming in at or below expectations in the latest reports, is that the Fed continues to escalate its tightening and hawkish stance. The Fed funds market has essentially priced in another hike at the upcoming July meeting in a few weeks and at least one more by year’s end.
The Fed appears to be relying on the old Phillips curve idea, which suggests that a strong economy leads to more inflation. However, the numbers in commodity markets and oil markets do not indicate elevated inflation.
But the market is responding to the strong economic data over fear of the Fed’s ongoing war on growth, as the momentum in the tech sector remains quite strong. Earlier in the year, any hint at a tighter stance on policy and the market shuddered but now it is brushing that off. We will see how long that can last.
The housing market is showing signs of stabilization with yet a third month in a row of higher prices in the Case-Shiller housing indexes, although existing home sales remain low. Housing affordability has decreased significantly, with home prices up 40% while average mortgage costs increased by 65%. This collapse in affordability makes it difficult for buyers to finance a home purchase with a mortgage, so the stabilizing in prices likely comes from cash deals.
I believe we still have elevated risks of a downturn in the second half of the year due to potential negative shocks. We have the Supreme Court's decision on student loans that will crimp spending and a potential UPS strike in the short run.
The market is currently prioritizing the strong economy over fear of the Fed. I think momentum and fear of missing out on gains can take the market higher over the short run. It could end by taking us towards an overvalued level. But in the second half of the year, we will be watching for weak employment reports and other negative shocks that could alter the strong current tones in sentiment. However, value stocks are already positioned for a mild recession, and their valuations are persuasive in the long run.
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