- Now is the time to buy stocks as inflation begins to roll over, according to James Paulsen of The Leuthold Group.
- He cited the decline in freight rates, steadying wage inflation, and sideways commodity prices since March as reasons to believe inflation may have peaked.
- "We think a decline [in CPI] to under 6% (and perhaps closer to 4%) is probable by the end of this year," Paulsen said.
A likely peak in inflation over the past few months means investors should start buying stocks, The Leuthold Group's James Paulsen said in a note on Thursday.
He found that as long as inflation starts to decelerate, even while still elevated, investors have a green light to start buying equities. Since 1945, when the annual consumer price index inflation rate fell or remained unchanged after peaking, the S&P 500 delivered positive one-month returns.
On the flip side, an acceleration in the annual CPI inflation rate when it was already above 4% led to losses for S&P 500 investors in the ensuing month.
"Interestingly, even with today's lofty inflation rate (> 6%), what is key to present-day circumstances is that the level of inflation is not likely to be adverse for the stock market provided it remains unchanged or lessens," Paulsen explained.
He believes inflation has indeed peaked, and pointed to a number of data points to back up his view. A decline in freight rates, recent sideways action in commodity prices and wage inflation, and March's core CPI reading coming in below expectations all suggest to Paulsen that inflation is set to decline.
Additionally, a declining trend in retail sales and a flattening in housing-related measures "suggest that some demand destruction is starting to surface due to both higher inflation and mortgage rates," Paulsen said.
Part of that demand destruction could be coming from the Federal Reserve, which already started its first interest rate hiking cycle since late 2018 in a bid to tame inflation. Fed Chair Jerome Powell has indicated that a 50-basis-point interest rate hike is possible at its upcoming May meeting.
"If the current inflation rate accelerates toward 10% (or worse) in the balance of this year, the stock market will face a rough road. However, if inflation is nearing an inflection point and is poised to contract in the coming months (even if it remains substantially above the Fed's target), not only is the environment for stocks probably not treacherous, but it will likely prove to be very rewarding," Paulsen said.
If inflation begins to roll over, now will ultimately prove to be a "fleeting opportunity" for investors to buy stocks at an attractive price, the note added.
"We think a decline [in CPI] to under 6% (and perhaps closer to 4%) is probable by the end of this year," Paulsen said.
