Weekly Summary: Rising Stocks May Stumble over Inflation

This week ends on a positive note as the S&P 500 broad market index went up by 2.0% to 4055 points, and is signaling a possible upside towards 4150-4250 points despite a bulk of economic troubles.

Long positions in such an environment may be seen to be almost insane. The banking system is cracking, the increased issues concerning the U.S. Debt ceiling are not being resolved, while the American government has to pour out extra money to save the banking sector from falling apart. This week the Federal Reserve (Fed) continued to prepare markets for another interest rate hike. The Fed Bank of Boston President, Susan Collins, Richmond Fed President, Tom Barkin, and Minneapolis Fed President, Neel Kashkari, see at least another interest rate hike by 0.25% and some “more work to do” to lower inflation. "Wage growth is still growing faster than what is consistent with our 2% inflation target; that tells me we still have more work to do to bring the services side of the economy back into balance... we know we have to get inflation down, and we will," Kashkari said.

This is astonishing as the Fed and U.S. Finance Ministry went the extra mile  to save the banking sector. The Fed erased most of its balance sheet decline during the year and together with the Finance Ministry, it provided the economy with almost $500 billion in liquidity in just two weeks. Now the same people are talking about the battle with high inflation. This situation is similar to that of the myth of King Sisyphus who was forced to roll an immense boulder up a hill just to see how it rolls back every time he is close to the top of the hill. The current inflation boulder has been seen to roll back almost to the foot of the hill. So, the Fed has to start again from the beginning, but this time with a weaker banking sector and high interest rates that cannot be raised any further without new quakes in the financial system.

Is there a way out of this situation without a massive collapse of banking institutions and other entities that could exist only with low or close to zero interest rates? It seems that the fight with inflation has prompted a vast crisis, while no action will manifest a surrender and an increase of the inflation target to 3-4%, which eventually will undermine the U.S. Dollar as a global reserve currency. The second option will make the damage much greater than that which may be seen during standard cyclical economic crisis.

Inflation numbers are very crucial in this regard. Any reversal of inflation to the upside would prompt the Fed to act aggressively, but also cause a minor slowdown according to estimates and this may nudge unemployment to rise and break the vicious circle on inflationary wage increases which translates into higher prices that will again lead to accelerating wages rise.

Technically, the S&P 500 index changed its formation to the upside with targets at 4150-4250 points. The resistance moved to 4060-4080 points, while the support level is at 3930-3950 points.

Iraq halted its northern crude exports of 400,000 barrels a day to Turkey after winning an arbitration case against it. This issue now changes the logic of the primary recession scenario with downside targets at $40-60 per barrel of Brent crude benchmark. Although, the nearing meeting of the Organisation of Petroleum Exporting Countries and its allies, known as OPEC+, next week may bring a surprise.

Gold prices are moving inside the mid-term, upside formation with targets at $2000-2100 per troy ounce by the middle of 2023. Prices broke through the resistance level of $1890-1900 per ounce amid a shocking quake in the U.S. banking system and the widening fears of a possible banking crisis in Europe. They have reached the target zone but prices are likely to tumble before they can resume climbing towards extreme targets at $2400-2500 per ounce.

The U.S. Dollar has dropped substantially, but this seems to be rather temporary. The Dollar may renew its highs before going further towards the other direction. Considering high volatility in the market, it is better to place orders attached to longer perspectives. Short trades for EURUSD opened at 1.06700-1.07200 with a downside target at 5000 points below the opening level and the same 5000 points for a stop-loss order should be considered attractive. The decline of the EURUSD to 1.05000-1.05500 could be used to close half of the trade. The other half should be continued until the targets of 1.03000-1.03500 are met.