Daily Bullets…..For May 15, 2014

·         Volatility is normal…..We note stock market is under pressure this morning, down about 1.1%. The cause for the decline? Weak earnings from Wal-mart, continued weakness in small cap stocks, and inflation numbers that came in higher than expected.

What’s the point? The stock market has been in a fairly steady uptrend for over 2.5 years, incurring only modest pullbacks and no “corrections”. That is a long run without a correction (defined as a decline of 10-20%) and well above the long-term average of about 18 months between corrections. Occasional corrections should be viewed as normal and healthy to mitigate trading or sentiment excesses. One sector that likely needed some adjustment was small cap stocks, particularly biotech, social media and IPOs. We don’t believe a correction of sentiment and overvaluation in the small cap sector should derail the positive underlying fundamentals for other sectors, such as large caps and value stocks, or the overall market. Our investment model is diversified with respect to asset class, which inherently helps to mitigate volatility of client portfolios. Link: http://finance.yahoo.com/news/stock-futures-little-changed-ahead-114727141.html

·         Inflation improving to “lowflation”…….Two economic reports this morning are both positive, one being April CPI, the other being initial unemployment claims. April “core” CPI came in at 0.2% m/m and is up 1.8% y/y (described by one economist as “lowflation”). Initial unemployment claims came declined to 297,000, their lowest level since March 2007. 

What’s the point? These are both healthy readings for the economy and support our view that the economy should strengthen as we move through the year. Some investors may view these as potentially negative because 1) it may appear inflation is accelerating and 2) it could force the Federal Reserve to speed up its monetary tightening process. 1.8% inflation is not high by historical standards, and we believe the probability of either of these occurring in the near term is low. Why? While food price inflation is real and will continue, we do not see inflation in one sector of the economy translating into economy-wide inflation because other conditions for broad-scale inflation, such as capacity shortages and wage hyper-inflation, are presently absent. Second, we continue to believe there remain deflationary forces still at work globally, particularly in Europe and now China, and continued de-leveraging, that we expect will act to keep a damper on inflation, at least for the next 6-12 months. We believe today’s market decline is, at least in part, due to nervous traders looking for an excuse to sell. Link: http://money.msn.com/business-news/article.aspx?feed=OBR&date=20140515&id=17622092