Yardeni Sees Chance That Stagflation Proves Best Case for Stocks

(Bloomberg) -- The idea that stagflation might not be the worst thing for the U.S. economy shows just how treacherous these times are for investors.

Veteran investment strategist Ed Yardeni says an environment of high inflation and slower economic growth could even be the best result for U.S. equities, given that the Russia-Ukraine war looks like an accelerant for consumer prices already rising at a 7.5% pace. The war could cut $1 trillion from the value of the world economy while stoking inflation this year by causing another supply-chain crisis, according to the U.K.'s National Institute for Economic and Social Research.

“For the stock market, in a best case scenario right now, it takes us from what looks like an inflationary boom for the past half year to something more like stagflation,” the president of Yardeni Research Inc. told Bloomberg TV's Surveillance on Thursday. “For all the Fed's talk about the tools they have to bring inflation down, the only one I know is raising interest rates to a level that causes a recession. But this Fed is not going to do that. We will live with higher inflation and interest rates that really are not going to clobber the economy into a recession anytime soon with this Fed.”

Should a combination of “bad luck and bad policymaking” result in stagflation, “the market will figure out who wins and who loses in that kind of environment,” Yardeni said.

Yardeni sees Russia's invasion of its neighbor as part of “the second Cold War,” adding that “globalization certainly is at risk and that means the inflationary forces we have seen are getting another boost.”

While he said the consensus in the stock market is “this too shall pass,” the fixed-income market is harder to assess.

“The bond market hasn't made any sense to me for over a year,” said the strategist who coined the term “bond vigilantes” for investors and traders who demand higher yields in times of inflation. “The bond yield is ridiculously low. It should be at least 2% if not 2.5%.”

The 10-year Treasury bond is trading on Thursday at a yield of about 1.87%.