Over the past few quarters, Investor’s Daily Edge editors have been cautioning you about the state of the economy and how the tightening credit conditions were going to affect the entire economy.  I recall watching other advisors on CNBC and Bloomberg give their thoughts on the situation.  Many of them stated that the credit problem would only affect the financial arena and maybe the housing market.  However, I personally wrote about how deep this thing would run as far back as Labor Day.

I have been watching report after report come out detailing just how bad the economy is, but Thursday’s Philly Fed Survey really put it into perspective.  The February reading came in at -24, much worse than the expected reading of -10 and worse than the terrible January reading of -20.9.  The chart below from Briefing.com shows just how bad things are right now.

Look at the activity line in the chart.  It is trending downward and is as low as it has been since February 2001.  Even more troubling is the prices paid indicator.  This is represented by the upward trending red line.  Take note of how the prices paid indicator was trending downward back in 2000-2002.

The combination of the general activity trending downward and prices paid rising suggests that we are in a period of stagflation.  In case you aren’t aware, the word stagflation means that the economy is stagnant and inflation is rising.

One of the worst cases of this in the U.S. was in the 70s, when oil prices jumped sharply.  This led to inflation across the board and it slowed the economy at the same time.  Kind of sounds familiar, huh?

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For those they weren’t around or weren’t trading in the 70s, I have included a chart of the Dow.  I apologize for the crudeness of the chart, but the sources are limited when you go back more than 30 years.

The box I have drawn marks 1973-1975.  Note that the Dow dropped from just over 1000 in January 1973 to a low of 570 in December 1974. 

I don’t think it will be this bad because the Fed has taken steps to protect the economy from slipping this far into a recession.  The rate cuts are certainly not going to help the inflation numbers, but the hope is that the rate cuts will spur economic activity.

I wouldn’t look for the rate cuts to jolt the economy out of the slowdown immediately, but it will likely be toward the end of the year at the earliest.  More than likely it will be early next year.

For now, you should be adjusting your portfolio by taking money out of the market.  You should not have more than 50-60 percent of your portfolio in equities right now.  The rest should be in cash, fixed income, or making bearish bets with small allocations to puts.

Good luck and good trading,

Rick

P.S.  To let me know what you thought of today's article, send an e-mail to: feedback@investorsdailyedge.com.

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