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In One Chart: ‘We’ve seen this before,” warns BofA. Why inflation could take until 2024 to fall to 3% and weigh on stocks.

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U.S. stocks roared higher Thursday after October’s consumer-price index showed inflation rising at a less aggressive annual pace than expected, spurring hopes that the Federal Reserve’s inflation flight may be finally making some headway.

But it’s probably still remains too early to rush into battered stocks, because the U.S. economy is “less sensitive to a blunt instrument like interest rate hikes,” than in the past, warned analysts at BofA Global, in a weekly client note.

Though still elevated, the monthly data showed CPI at a 7.7% annual rate, down from a 9.1% high this summer. That lifted the mood on Wall Street, with the Dow Jones Industrial Average

shooting up more than 1,000 points and stocks headed for their best day of gains on a percentage basis since 2020, according to Dow Jones Market Data.

Still, the U.S. economy isn’t likely to quickly react to sharply higher interest rates, in part because 95% of home loans are fixed-rate mortgages, consumers remain resilient overall with excess cash and unemployment has stayed low, according to BofA Global.

What’s more, corporations also raised a lot of low-cost fixed-rate funding during the pandemic and the economy is now driven by the services sector, which is less sensitive to interest rate rises than the manufactured goods sector.

A look at history also suggests that inflation could take longer than expected (see chart) to return to more normal levels of around 3%. BofA’s team thinks it could happen in 2024.

A return to normalcy on the inflation front could take longer than expected

BofA Global Research, Bloomberg

“We’ve seen this before,” BofA Global’s research wrote, in a Nov. 8 report, adding that the 1967 to 1980 period was marked by “unrelenting inflation momentum” that resulted in the consumer-price index touching “a series of higher highs and higher lows,” as energy crises and wage inflation pushed prices higher.

While the team’s report came ahead of Thursday’s fresh inflation reading, its warnings were echoed elsewhere on Wall Street after the CPI report, with analysts and policy makers reiterating that the Federal Reserve’s inflation fight likely remains far from over.

See: Fed’s Daly, despite ‘welcome’ CPI data, still wants to raise benchmark rate above 4.5%-4.75% range

Ryan Sweet, chief U.S. Economist at Oxford Economics, called deceleration of the October CPI reading “a little misleading,” and that it won’t stop the Fed from hiking its policy rate further, in a Thursday note.

Josh Jamner, investment strategy analyst at ClearBridge Investments, said the upshot was that more slowing of inflation likely would be needed for the Fed to gain confidence about “putting the brakes on future rate hikes, which could occur in the first quarter of next year if the data cooperates,” in emailed commentary.

But the bigger risk for equity investors, he said, was downside to earnings and a broader recession in 2023.

BofA Global’s team went a step further, advising investors to “avoid growth stocks until valuations reset and inflation peaks,” but also to end the year with cash on hand and to use bear-market rallies to rotate into energy and credit.

The S&P 500 index

was up 4.8% Thursday, while the Nasdaq Composite Index

was 5.5% higher.

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