When does too much good news in the economy become bad news for the financial markets?
The answer came a couple Fridays ago. The latest report on jobs, unemployment and wages was hotter than a summer in Orlando. And U.S. stocks tanked.
The reason: fears of inflation. This comprises rising prices, costs, etc. Which can be bad for consumers and businesses.
After nine years of low inflation, when the U.S. economy grew slowly, but steadily, these fears arose. Volatility returned, and U.S. stocks suffered their first correction in several years.
A correction is defined by a temporary drop of 10 percent or more in values. Like pruning an overgrown bush, corrections can be healthy in an odd way. They prune away excesses.
However, too much of a sell-off in stocks can result in a bear market. This is defined as a prolonged 20 percent decline. A bear market is normally associated with a cataclysmic global event or with a slowing U.S. economy. This is hardly the case.
The global economy is improving, especially in major markets like Europe and Asia. So is the U.S. economy. In fact, the U.S. economy is projected to grow by as much as five percent in the first quarter of this year.
Economic growth is favorable, desirable. There are more jobs, and higher wages. Consumers and businesses have more to spend. But not when the economy overheats.
Runaway inflation is detrimental. In response, the Federal Reserve will usually raise interest rates to control inflationary pressures. It’s like tapping the brakes in a moving car. And don’t forget there is uncertainty surrounding a new driver of the Fed, Jerome Powell (following Janet Yellen’s retirement).
Unchecked inflation can lead to soaring interest rates, like in the early 1980s. This was bad. The U.S. economy and inflation are hardly there, at a tipping point, but a proactive response is better than reactive.
There are many opinions on why U.S. stocks have suffered a sudden decline. Some are blaming new volatility-based investments, which blew up and lost most of their value.
Going from low volatility, or fluctuations, to 1,000-point swings in U.S. stock prices can be unnerving for investors. It’s probably best not to watch and endure the hour-to-hour gyrations when this happens.
It can be confusing, and encourge rash decisions rather than prudent long-term strategies. After all, economic growth and prosperity are good things.
Positive economic news is likely to continue in the U.S. Massive tax cuts will boost corporate earnings. And earnings drive stock prices. This should ultimately be good news — and hopefully just enough of it.
(Steve Nicklas is a financial advisor and a chartered retirement planning counselor for a major U.S. firm who lives on Amelia Island. He is also an award-winning columnist. His business columns appear in several newspapers in North Florida and South Georgia. He has published a book of his favorite columns from the last 20 years, “All About Money.” The book is available in local stores and on Amazon. He can be reached at 904-753-0236 or at firstname.lastname@example.org.)