Quarterly Review

The Crossroads:

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Remember when brisket was a cheap cut of beef? Okay, we’re dating ourselves here… but there was a time not that long ago when butchers threw away both brisket and chicken wings. Better cooking methods and a desire among bar patrons for more than pretzels led to acceptance and price increases. In today’s market, the cost of these items and many other foods is especially high due, in part, to continuing labor shortages; processing plants can’t run enough shifts and more dock workers and drivers are needed to unload and deliver items to stores and restaurants.

The global microchip shortage continues to make appliances, computers, and especially cars (new and used) hard to find. Add housing and related items like lumber and furniture to the long list of soaring consumer prices… don’t forget gas… and the inflation fires are certainly being stoked.

Economic Bottlenecks

Still, the Fed chief recently told a U.S. House panel that price pressures should ease on their own.1 Jerome Powell admits to a “perfect storm” of rising demand for goods and services and bottlenecks in supplying them. There’s no disputing the lessons from Econ 101: when demand outpaces availability, prices escalate. The cure, of course, is to increase supply. That’s what happened during the Great Toilet Paper Shortage of 2020. Present conditions however make the cure less simple to apply; there are shortages of so many products and rising labor costs are a big contributing factor.

Bureau of Labor statistics show the U.S. unemployment rate remains well above pre-pandemic levels.2 Many more jobs were added in May and June, so the numbers are trending in the right direction… though gains were slower this quarter than economists predicted. A tight labor market often leads to higher wages; hourly pay rose nearly 9% over the last year.  Labor costs are a larger and more enduring portion of the inflation equation; it’s easier to cut prices on consumer goods than it is to reduce a worker’s paycheck. Some observers say when or if labor force participation returns to pre-pandemic levels may depend on how quickly federal unemployment benefits are retracted. (Expanded benefits will end across the country in early September.) Yet most economists recently polled by Reuters say not to expect a sudden return to work3 as many people remain fearful of coronavirus, have problems with childcare, decided they could survive on one income, or chose to take early retirement. Mr. Powell maintains “We will not raise interest rates pre-emptively because we fear the possible onset of inflation.”


Earnings and Dividend Rebound

Higher interest rates are a negative for many financial assets including most equities and fixed income securities. Rising prices lead bond investors to demand higher rates to maintain purchase power. Higher rates can also impact stock prices unless earnings growth is strong. When compared to bonds, stocks offer the best hope of gains and better protection against inflation. Additionally, stocks that pay dividends tend to be less volatile. Companies that consistently increase their dividends offer tangible evidence of financial strength. These are the companies we contend offer the greatest security when faced with adversity and the most benefit long term.4 Despite the unease, strong economic and earnings reports continue to push the U.S. stock market to new highs. The difference this quarter:  the rally is much broader, reaching beyond the big-cap tech stocks that were leading the charge in January and February to include more value stocks which more often pay dividends. As earnings rebound, dividends are rising, and we believe that’s where the long-term gains are truly made.


The Focus on Fundamentals

While inflation dominates business news headlines, perhaps the biggest threat to our economy according to the World Trade Organization, is unequal distribution of vaccines to low income countries.5 Its director notes, if poorer countries can’t control the virus more quickly it threatens herd immunity for the world by spreading variants, pushing up case counts, and reversing the economic progress we’re experiencing.

It is this possibility, not waiting on a new car, smoked brisket, or a plate of chicken wings that could pose a threat. This, and the fear of inflation. If workers, anticipating a higher cost of living, demand even higher wages, up goes the cost of goods and services, creating a higher cost of living. Cart or horse first? It may not matter, sometimes it’s perception that does, in which case we would do well to heed the famous words of Franklin D. Roosevelt, “We have nothing to fear but fear itself.”

We focus on fundamentals and advise our clients to do the same. We firmly believe the best protection against inflation without compromising market equity returns is ownership of dividend growth stocks seeking to deliver a growing stream of income, especially in unpredictable markets. For more than 30 years our team has endeavored to consistently deliver this dividend growth philosophy and exceptional service to our clients. Our goal is always to meet and exceed expectations.


1 https://www.reuters.com/business/us-lawmakers-likely-press-powell-feds-hawkish-turn-2021-06-22/
2 https://www.bls.gov/news.release/pdf/empsit.pdf
3 https://www.reuters.com/world/us/us-weekly-jobless-claims-drop-below-400000-2021-06-03/
4 https://bit.ly/3cuUTEc
5 https://www.wto.org/english/news_e/news21_e/dgno_13apr21_e.htm


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