Stagflation warning: It’s time to talk about that ‘dirty word’ as markets wobble

There’s been a steady drumbeat of concerns about stagflation as recent data showed economic growth slowing sharply and inflation picking up.

Now, Wall Street can’t ignore that unpleasant subject as its presence is starting to be felt on financial markets, especially in bonds.

“I think what we’re seeing here is I’m starting to get whiffs of stagflation, dare I say,” Steve Sosnick, chief strategist at Interactive Brokers, told Bloomberg TV on Friday. “I know that’s a dirty word in a lot of circles.”

He described the first-quarter GDP report on Thursday as terrible, noting growth decelerated much more than expected to 1.6% from 3.4% in the fourth quarter.

Meanwhile, the report also showed that inflation, as measured by the personal consumption expenditures index, accelerated to 3.4% from 1.8% in the prior quarter.

“Well, if you have a weak economy and inflation that’s not coming down, you kind of have to think in those terms,” Sosnick added. “And that’s why it was kind of shocking to see bond yields rise on a day where GDP was a big miss. So it has to be that other inflation nervousness.”

Analysts have called the latest batch of data “the worst of both worlds” as inflation that stubbornly remains above the Federal Reserve’s 2% target will prevent it from cutting rates, which it historically has done in response to softening economic growth.

Expectations that the Fed will be forced to continue its tight monetary policy for longer has sent the 10-year Treasury yield surging back to 4.7% in recent days before retreating, though markets are concerned an eventual return to 5% is possible.

The resurgence in bond yields, which affects other borrowing costs like mortgage rates, has also hit stocks, especially growth-oriented tech giants like Nvidia.

Investors should feel “concerned, a little bit,” Sosnick cautioned, saying that the time to buy anything amid a broad market rally has ended.

“The push-pull between stocks and bonds is getting a little nerve racking,” he added.

Markets ignored that dynamic earlier in the year as a relentless “fear of missing out” stock rally was ongoing, while the uptick in bond yields had been attributed to a strong economy, which can help stocks—up to a certain point, he explained.

But with growth cooling off and inflation ramping up again, now the bond market is starting to get stressed. And as a Fed meeting and monthly job reports are due in the coming week, the downside risk in stocks remains substantial, Sosnick warned, pointing out that the market fell 4%-5% but didn’t complete a correction, which typically is considered a 10% drop.

Others on Wall Street have also voiced uneasiness with the data trending toward a stagflation scenario.

On Tuesday, JPMorgan CEO Jamie Dimon said now more so than ever the economy is resembling the 1970s, when both inflation and unemployment were high but economic growth was weak.

He also hinted that some indicators may be worse in 2024 than they were in 1970, saying, “If you go back to the ’70s, deficits were half of what they are today, the debt to GDP was 35%, not 100%, and so part of the reason I think we’ve had this strong growth is the fiscal spending.”

Also this week, UBS global wealth management investment head Mark Haefele told MarketWatch that he’s not worried about one data point, “nobody’s really prepared” for stagflation.

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