Inflation Just Went From BAD To WORSE

What's up, your Graham? It's Gas here, and it's official: the stock market is backwards. Throughout the last week, news came out that retail sales are jumping, company earnings are soaring, employment growth accelerated by the highest level in 10 months, and all of that should be fantastic news for the market. But it's not. In fact, the stock market started to immediately sell off, and all of that great news was overshadowed by one of the economy's greatest fears—wait for it—inflation, which increased at a rate of 5.4%, the largest move in the last 30 years. That sudden burst of inflation was a lot higher than what the Federal Reserve and most economists anticipated.

Other members of the Federal Reserve say that now might be the time to pull back and eventually eliminate the stimulus that was put in place to keep our economy afloat. If that's not done correctly, then the stock market could fall. That presents a really unique problem for investors right now. If you hold on to too much cash, you'll lose value. If you're invested in the stock market, well, that could fall once the Fed reduces her stimulus. And if you just want to drive far, far away and pretend like none of this even exists, well, you can't without spending 30% more for a used car and 40% more for gas.

So we got to talk about exactly what's going on: why the Fed issued a warning for inflation, why prices are suddenly rising faster than the temperatures in Las Vegas, and then finally how you could invest your money moving forward. But before we start, it would mean a lot to me if you inflated that like button for the YouTube algorithm by giving it stimulus until it turns blue. And best of all, if you actually do that, I will do my best to respond to as many comments as I can.

All right, so here's what's going on and what's led up to the point where now, the better the economy does, the worse the stock market performs, while everyday prices continue going up higher than anybody expects. Almost all of this begins in March of 2020 when the Federal Reserve lowered their benchmark interest rates all the way down to 0% in an effort to help stimulate the economy through the beginning of the pandemic. But alongside lower interest rates, they also did something that was unprecedented. In addition to several trillion dollar stimulus packages that were created to help keep businesses and people afloat, the Federal Reserve agreed to start buying corporate bonds, which is a really fancy way of saying the Fed is injecting a lot of money into the economy directly through businesses to make sure things don’t get too bad.

Now from their end, this is a really calculated move because they theorized that if people felt the economy was going to continue falling, they wouldn't lend money. We would fall into an even deeper recession, prices would continue falling, and we would be in a much worse position. So instead, the Fed stepped in and said, “If anyone needs money right now, not a problem. We'll lend you whatever you need for free. Just agree to pay us back,” and that in turn helped boost the confidence that if the Fed is guaranteeing all of these loans, businesses will continue to operate, and everything will be okay.

You know what? It worked! Shortly after the announcement, the stock market began to skyrocket into one of the strongest bull markets in history. But there was a cost. Some people questioned that the Federal Reserve was ruining the functions of the free market and the role of what was supposed to be an independent central bank. That's because the Fed provided an artificial temporary boost to the market that could only go on for so long until eventually it ends, and from there, the market's going to be going to a level that it could actually support on its own.

The issue now is that that moment might be happening sooner than expected. Now on the surface, here's what the headlines tell you: consumer prices rose nearly 1% between May and June, which is nearly double what economists predicted it would be. It was also a whopping 5.4% higher than it was in June of 2020. Beyond that, median rents nationwide also went up another 8% from a year ago, with the concern that now minimum wage is officially not enough to afford rent anywhere in America. In fact, a recent report shows that a worker would now need to earn $24.90 an hour to afford a two-bedroom home at fair market rent or $20.40 an hour for a standard one-bedroom. And that, of course, begs the question: how much of this is due to inflation, and how much worse can things get?

Well, most recently, the Federal Reserve said on record that they believe there are three main driving forces behind why prices are getting so unbelievably expensive. The first one they say is because of supply chain bottlenecks. I would say the best example of this, with context to inflation, is with a chip shortage limiting the production of new vehicles and causing used cars to double in price from a year ago. That alone made up for a significant portion of the overall inflation metric and made it seem a lot worse than it actually was. In other words, if you calculate inflation without considering used car prices, it's going to look a lot lower.

Now second, they say that extraordinarily high demand is pushing up prices higher than normal. This is evidenced by the fact that travel-related expenses like gas, fuel, and rental cars are all seeing higher prices, along with increased demand for airfare and hotels. Restaurants are also a lot more busy while their prices have gone up 4.2% from a year ago. The reopening of our economy really just sparked a lot of pent-up demand that wasn't ready for everybody all at the exact same time, and that, of course, is lifting up prices along with it.

And third, they say it looks way worse than what it actually is because we are measuring year-over-year during a time where our economy was struggling. And sure enough, as you can see from the chart, we saw one of the largest and quickest inflation drops in history as the economy shut down. So now, a year later, we're going to appear artificially higher when you calculate it from the very bottom a year ago. In the big picture, when you zoom out over the last 10 years, you could see that overall inflation is still around an average of 2.2%, all things being equal.

But still, the bigger question remains: with inflation coming in way higher than expected, they've expressed concerns about dialing back stimulus and the impact that could have on the entire stock market, which is still going down. So what's going on? All right, so in terms of the Fed wanting to scale back on their stimulus and the potential impact that could have on the entire market, here's what you need to consider. Right now, the Fed is purchasing $120 billion worth of government bonds and mortgage-backed securities every single month to drive down record low interest rates and give you a chance to borrow money at record lows.

That, in turn, introduces more money into the economy, and as more money enters the economy, there's the risk that further devalues our money and sends the cost of everyday items even higher, like kind of what we're seeing today. But now, inflation is getting a little bit too high, and even the Fed just recently said that upward risks to the inflation outlook are increasing in the short term, increasing the likelihood that inflation surges will last longer than originally anticipated. On top of that, the Fed also said that they acknowledged that they might need to respond to higher than expected price pressures, and that we have the tools to deal with it, but in ways that are unnecessary or hinder the economic recovery.

The Wall Street Journal also reported that it was important to be well-positioned to reduce the rate of asset purchases if appropriate in response to unexpected economic developments, including faster than anticipated progress. In other words, they're basically saying that if inflation persists and prices keep rising faster than expected, their plan is to taper back on stimulus, increase interest rates, and hope that's enough to prevent prices from rising even further. Even though that was originally planned to happen in 2023, now some say this could happen as soon as the end of this year.

Now, on one hand, if this happens, it is a sign that our economy is recovering and can actually withstand a little bit less stimulus. But on the other hand, this could be bad for the stock market, which is largely grown reliant on cheap rates to boost prices. And it's not just the stock market that could see an end of stimulus. As of right now, the unemployment boost of $300 a week is scheduled to end in September, the $250 a month child tax credit is going to last until the end of 2021, with the rest of it coming when you file your tax return. After that, if nothing else is passed, then the economy is on its own.

So that then leaves us with this: even though they say inflation is going to be temporary due to high demand, supply chain shortages, and year-over-year calculations from the bottom of the market, if it continues to stay as high as it is now, they're going to have no other choice other than to raise rates and stop injecting $120 billion into the market every month. If that happens, here's what this means for you and what you could do about it.

From the stock market's perspective, uncertainty is one of the main driving forces of the market right now, not so much inflation or interest rates. That's because once the stock market knows the direction we're headed or the results of a highly anticipated earnings report, it could immediately adjust for those factors and then carry on as usual. But when you have higher than expected inflation, the strong likelihood that stimulus and low rates could end sooner than expected, and the uncertainty about whether or not strong earnings could be sustained without a boost of the economy, then you have a market that panics in prices.

In the worst possible case scenario, in a way, the stock market really is backwards right now because you would assume that good growth, strong earnings, and a reopening economy would be great for your investments. But it's not since the market is forward-thinking. Good earnings and strong growth could already be priced in, and now with stimulus ending, what more is there to look forward to when people have less discretionary income to spend? If anything, the worst news we see right now, the better it is for the stock market because that means that low rates and stimulus last even longer.

So really, nothing makes sense: up is down, and I wouldn't be surprised if we continue to see a lot more volatility through the rest of the year. Now, that doesn't mean that you should sell all of your investments, but it does mean that you should brace yourself that anything could happen. Nothing is rational, and if the market continues to drop, just stay the course and buy as usual.

Now, from your perspective, the Federal Reserve has made it clear that they think inflation is going to persist longer than they expect. Now unfortunately, minimum wage workers are likely to be the ones hit hardest from rising inflation since studies have shown that inflation-adjusted wages have barely increased since the 1960s, while the cost of living continues to get more expensive each and every year. The fact that a two-bedroom is now unaffordable on minimum wage anywhere in the United States really highlights the severity of persistent inflation and the lack of affordable housing.

That just means as far as what you could do about this from here on out: if you're investing, make sure to stick with solid long-term companies that you could hold on to for decades, and then don't sell. The entire economy is rather fragile right now, and even the slightest little panic could freak everybody out, so don't do that; just hold. A recent study even confirms that if you had just missed the 10 best days in the market over the last 15 years, your overall return drops by more than 50%. If you miss the best 20 days, your return drops by more than 70%. That's why buying and then continuing to buy in without selling is going to be the best strategy to make the most amount of money long-term.

You can also look to refinance or lock in a really low interest rate now before they eventually go up. That's exactly why I've chosen to keep my mortgages for as long as possible at the lowest interest rate I could find. Now, if we do see longer and worse than expected inflation, that just makes debt easier to pay off in the future. When my interest rates are 2.8% fixed for the next 30 years, inflation above 3% essentially means that they’re paying me to borrow money. So I may as well just use that to my advantage because it's an incredible concept.

Beyond that, though, day-to-day, it's probably just a good idea to be a little bit more observant in terms of what you're paying. Shop around for the best deals and then track your expenses. These are certainly reasonable habits to have at any time and not just today. But if prices do continue going up, then saving a little bit more money never hurt, and you should always just look to get the best deals anyway.

Personally, I think we're going to see longer and worse inflation than what the Federal Reserve expects, and that might prompt them to raise interest rates a little bit sooner than expected. But I don't think what we're seeing is permanent. Eventually, things will return to normal, and that's why I think the best strategy right now is to keep buying, hold as usual, and smash the like button for the YouTube algorithm.

So with that said, you guys, thank you so much for watching! I really appreciate it as always. Make sure to subscribe, and also feel free to add me on Instagram. I posted pretty much daily, so if you want to be a part of it there, feel free to add me there. Also, on my second channel, The Graham Stephan Show, I post there every single day. I'm not posting C, so if you want to see a brand new video from me every single day, make sure to add yourself to that. Thank you guys so much for watching, and until next time!