Innovation investor and founder of Ark Invest Cathie Wood issued a warning, saying she is more concerned about deflation than the Federal Reserve's widely anticipated interest rate hikes to lower rising inflation.
According to critics of Fed policy like Wharton Professor Jeremy Siegel, the Fed is overtightening into a hard landing — and according to Wood, the unanimity of the Fed’s last decision to increase the Fed funds rate by 75 basis points was surprising, given that the Fed uses lagging indicators to raise rates.
What happened: Wood penned an open letter to the Fed early Monday, offering data to the “data-driven” committee to consider as it prepares for its next decision on Nov. 2.
In the letter, the Ark Invest founder and CIO laid out her concerns that the Fed’s current 13-fold increase in interest rates in the last six months is going to lead the world into a deflationary burst.
“The Fed is probably making a mistake,” Wood said in a video accompanying her open letter. “I say probably because I have to from a compliance point of view, but I really do believe the Fed is making a mistake.”
Economic backdrop: In order to slow the spike in inflation brought on by a restoration of post-lockdown consumer activity and excess savings, central banks in the U.S. and around the world are aggressively tightening monetary policy.
The effects of the COVID regulations and the slump in the real estate market are being felt in China.
The ability of monetary authorities to pull off a soft landing — that is, to lower demand enough to bring inflation down from near 40-year highs without plunging the economy into a severe or protracted recession — is being increasingly questioned.
Prices of raw materials are forward-looking indicators throughout the early phases of processing. With the exception of food and energy, most commodity prices have peaked and are currently declining on a yearly basis.
Food and energy prices are important, but, “we do not believe that the Fed should be fighting and exacerbating the global pain associated with a supply shock to agriculture and energy commodities caused by Russia’s invasion of Ukraine,” Wood wrote in her letter.
Manufacturers and retailers appear to be overtaken by inventory building further upstream after increasing stocks to protect against slowing global supply chains. World-class corporations appear to have overcome computerized enterprise resource planning (ERP) systems and overordered goods after battling with such supply chain networks for more than a year.
Some data: According to Nike's most recent quarterly data, the inventory discrepancies have gotten worse. Nike's stocks rose 44.2% internationally despite a 3.6% increase in sales. According to Wood, its inventories rose by 64.8% and 85.0%, respectively, in the U.S. and on ships in transit.
In the auto industry, used car price inflation as assessed by the Manheim Used Vehicle Value Index peaked at 54.2% on a year-over-year basis in April 2021 and made another run to 46.6% in December 2021. Since then, however, the index has plummeted 13.5% and is down 0.1% on a YoY basis.
“The Fed seems focused on two variables that, in our view, are lagging indicators — downstream inflation and employment — both of which have been sending conflicting signals and should be calling into question the Fed’s unanimous call for higher interest rates,” the letter reads.
Reports that inflation, as determined by the CPI and PCE Deflator excluding food and energy, increased by 0.6% and that the PPI excluding food and energy grew by 0.4% during the months of September and early October made the Fed feel justified in taking a harsh posture, she said.
The CPI and PPI decreased by 0.1% when accounting for food and energy, although the Federal Housing Finance Agency's (FHFA) estimate of home prices decreased by 0.6%.
Initial unemployment insurance claims decreased between late September and early October, and nonfarm payroll employment rose by 263,000. However, JOLTS job openings fell 10%, or 1.1 million, manufacturing employment decreased by the ISM Purchasing Managers Index, and Challenger involuntary job separations increased 67.6% on an annual basis.
“Unanimous? Really?” Wood asked.
“Could it be that the unprecedented 13-fold increase in interest rates during the last six months — likely 16-fold come November 2 — has shocked not just the US but the world and raised the risks of a deflationary bust?”
Stay up to date on Ark Invest, and Cathie Wood news, here.
Photo: Courtesy Rafael Saldaña on Flickr
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