A lot contrarians, and even many in the mainstream media, are concerned that the US economy is taking a trip ’70s-style stagflation — a period of slow-to-negative economic growth coupled with high inflation. But this is missing the point, says The Sovereign Society’s Eric Roseman. What we’re facing this time around is “inverse stagflation,” a stagflation’s evil twin, where inflation, economic stagnation and deflation come together to wreak economic havoc. 

How Inverse Stagflation Attacks Your Stocks

Eric Roseman

As I said yesterday, this year we’re facing an almost unheard of economic environment. It’s similar to the ‘70s style stagflation – but these rising commodity prices are also mixed in with a housing bust and a credit crisis.

In short, it’s a nasty combination. And analysts across the globe are trying to figure out what this new 21st century-style “inverse” stagflation will do to your stocks.

In my opinion, the odds are that we’re all facing a prolonged period of stock market weakness. Inflation is not bullish for earnings unless companies can make higher prices stick.

More companies are raising prices, especially the commodity producers. This whole process is now moving up the consumption chain and will result in higher prices for just about everything – mainly, but not exclusively, because of soaring oil.

Not every industry will successfully raise prices and that alone implies the broader market will continue to suffer. Or at best, these industries won’t go anywhere.

Combined with the prospects of Obama winning the elections this fall and higher corporate and individual tax rates in 2009 or 2010, stocks are going to have a very hard time making any serious progress. Taking back the Bush tax cuts would be devastating for the United States and the global economy. More taxes would lead to a deflationary, draining business investment, consumer spending and depressed global demand for goods and services.

If the next government is stupid enough to hike taxes in the midst of a recession, the stock market will suffer incalculable declines. Adding more insult to injury, the Bernanke Fed might be compelled (or forced) to raise lending rates as inflation continues to accelerate threatening commodity inflation.

None of this suggests we’re in a cyclical bear market. Rather, this is a secular bear market or possibly a prolonged period of stagnation.

Focus on alternative sectors of the market with low-to-negative correlations to common stocks over the next several years. This includes commodities, mostly gold, foreign currencies in Asia, alternative energy, distressed global blue-chips that pay dividends and hedge funds and managed futures managers that can profit in this mess.

Also, structured products that offer a capital guarantee also look interesting in this environment, including one tied to financial services and other distressed areas of the market.

ERIC ROSEMAN, Investment Director

Source: How Inverse Stagflation Attacks Your Stocks