Wells Capital's Paulsen: 'Runaway Inflation' Represents Strongest Threat for Stocks

Tuesday, 24 Jun 2014 11:36 AM

By Dan Weil

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An acceleration in inflation constitutes the biggest danger for stocks at this point, says James Paulsen, chief investment strategist at Wells Capital Management.

But bullish investors will be happy to learn that he only ascribes a 20 percent possibility to the chance of a viral inflation outbreak.

"If inflation was really getting out of control, you'd have to go then to cash or low-duration bonds or real estate or commodities," Paulsen tells CNBC. "But I'm not there yet at all. I don't see that as the most likely outlook at the moment."

Editor's Note:
5 Signs Stock Market Will Collapse in 2013

Inflation registered 2.1 percent in the year through May, as measured by the consumer price index (CPI). The Federal Reserve's favored measure of inflation, the personal consumption expenditures price index, increased 1.6 percent in the year through April.

The Fed has a 2 percent target for inflation.

Paulsen doesn't think the five-year bull market is over, though a correction may come soon. "The market has a ways to go still in the next few years, even if it has a correction here over the next several months."

As for what to invest in, "I'd stay overweight stocks. But I would start to diversify a little bit away from cyclicality," he suggests.

Paulsen recommends material stocks, because they "might do well with inflation fear," as well as technology stocks, because they "might do well with the capital spending starting to perk up."

"I'd also start to look at buying defensives, like the staple stocks," he notes. "If bond yields start moving up, I'd look at buying utilities."

Most economists agree with Paulsen that inflation isn't a problem yet. "Inflation in the U.S. is in a sweet spot. It's not too hot, it's not too cold," Millan Mulraine, deputy head of U.S. research at TD Securities, tells Bloomberg.

"The disinflationary stress that we've had over the past two or three years has effectively ended. That's the big story here."

Editor's Note: 5 Signs Stock Market Will Collapse in 2013

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