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Cyclical perspective

At some point, inflation poses a threat, and the Fed raises interest rates to cool the economy. Investors should know that will happen – but probably not anytime soon, Bob Landaas says in a Money Talk Video. Here is a transcript:

I think it’s really important for investors to understand where they are in economic history, to have a very clear sense of the business cycle and know what forces are in play that will move the equities and the fixed-income markets up or down.

And the basic business cycle lasts about five years. We come out of a recession; the Federal Reserve is interested in stimulating the economy, so they lower interest rates. We go through a period of time where we’re classified as a recovering economy, where we haven’t passed the prior high-water market yet for GDP. In the United States, we were a recovering economy from June of 2009 until a year ago November, when we transitioned into an expansionary economy.

Here’s the point: The minute we’re classified as an expansionary economy, we start worrying about when the Fed is going to raise interest rates to reduce economic activity because they’re worried about inflation. It’s very unusual in this current business cycle that we’re being told by the Fed now that they have no intention of raising rates until the latter part of 2015. That’s an eternity in our business.

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It’s very unusual that we’re now in this sweet spot of the business cycle, not worrying about when the Fed is going to take the proverbial punch bowl away from the party. Two years is a very long time.

I think investors have to be very careful when they analyze the Fed’s remarks. They’re not saying they’re going to raise rates at the end of ‘15, they’re saying they’re not going to raise them until then – very different.

Forecasters have been wrong repeatedly over the last five years in suggesting that inflation was at our doorstep.

Concerns about quantitative easing, stimulus spending translated for a lot of folks into how inflation was going to take off. Gold investors forced the price of the bullion to record territories. And now we’ve seen gold plunge 25 percent in value in just a couple of years. So the bloom is off that rose.  And what that tells me is that interest rates aren’t about to go up anytime soon.

When you look at the personal consumption expenditure index, buried inside the GDP report – it comes out every 90 days – it tells us that inflation is barely measurable. The Fed has said that they want 2 percent as a target. They can’t even get it up to 2 percent.

So with all the noise that we hear about interest rates are about to  take off, bonds are about to get hurt, I suspect that at some point in time inflation will rear its ugly head, but it’s nowhere near the short-time horizon. I think it’s important for investors to know where they are in the business cycle and to look at the forces that push equity prices higher.

Bob Landaas is president of Landaas & Company.

Money Talk Video by Peter May

(initially posted May 2, 2013)

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