When markets head south, it’s a time for investors to rejoice and not despair. Because falling markets give you the chance to invest in quality businesses – often at knock-down prices. So, my advice right now is to make the market correction your ally, remembering that the lower the price you pay, the higher your long-term return is likely to be.

Last week, U.S. inflation data revealed the pace of price increases remained both stubbornly and unexpectedly high in August, driving Wall Street to its worst day of losses in more than two years.

Headline inflation peaked back in June at 9.1 per cent year-on-year, fell to 8.5 per cent in July and in August fell again to 8.3 per cent. But that was not enough to assuage investors and economists who had expected a lower figure of 8.1 per cent, and were therefore wrong.

The August inflation figure was aided by lower fuel prices but a continuing surge in price for food, housing and medical care categories disappointed.

I remain of the view that inflation in the U.S. has peaked. That’s a good thing, but it will take longer than the bulls expect to get down to the Federal Reserve’s intended target of two per cent.

Therefore, when the market gets excited about inflation peaking, you should zip up your wallet and wait. The market will inevitably be disappointed again. And when the market slides on the disappointment, you should be sharpening your pencil ready to invest in the high quality companies and funds you have had your eye on.

We should not be surprised by continuing volatility in the near term because the market remains fearful of inflation taking its time to ease and of the Federal Reserve’s commitment to reducing inflation amid a tight labour market. The latter means rising rates for longer than consensus recently expected.

I believe early signs are confirming inflation is peaking. Store inventory levels are high, as are wholesale inventory levels. Days-to-deliver and backlog-of-orders have also peaked, suggesting the trend is in the right direction for the price of goods that had hitherto suffered from supply chain bottlenecks.

But the service sector makes up a large component of Core Inflation and salaries are, in turn, a large component of services prices. U.S. wage growth is at its highest level in decades suggesting the Fed is no-where near pausing rate increases. While the labour market remains tight, it’s simply premature for the market and investors to be excited about falling inflation.

The market is vulnerable to episodes of disappointment

The tight labour market will eventually resolve itself. First however, international flights need to be cheaper for workers to be able to afford to migrate, work, and alleviate the tightness so many companies are complaining about.

In the meantime, the combination of aggressive Fed tightening, and fragility in the economy, means investors might reasonably expect some mouth-watering value to emerge among high quality companies.

While the Fed raises rates there is risk the economy falters. Fed Chairman Jerome Powell warned the world to expect some pain. In any event, fiscal and monetary largesse has given way to restraint. This should dampen aggregate demand. And company earnings of course are a coincident with GDP, so as the economy slows you can expect the proportion of the companies reporting declining earnings to rise. Those companies should see more material share price falls. But they’re not the companies we are investing in.

Rob Forker from Polen Capital’s Global Small and Mid Cap Fund told me that even though the share prices of his portfolio have fallen in aggregate by 38 per cent, the earnings of the portfolio have risen 15 per cent. The further they fall in price the better the buying. As Ben Graham once suggested; “buy stocks like you buy groceries, not like you buy diamonds.”

The point of this blog post is not to elicit concern but to inspire you to be ready to take advantage of opportunities. The lower the price you pay, the higher your return – especially when the companies you buy are growing their earnings at double digit rates! 

We also know bull markets always follow bear markets. There will be a dawn. Remember Ben Graham’s urging to take advantage of Mr Market’s wallet rather than listen to his wisdom? You can read the Mr Market Allegory here when, in 2018, as the market then corrected, I wrote about making market corrections your ally.

The good news is that inflation is ever so gently easing. It is not contracting as fast as an impatient stock market would like, and there’s some concerns about the state of the economy, but that’s when opportunity abounds. Be greedy when others are fearful and fearful when others are greedy, remember? It’s when sentiment is disappointed and glum that bargains abound.

And historically – at least since 1970 – when the economy is growing, even slightly, and disinflation is occurring (‘disinflation’ is consecutively lower rates of inflation) – growth stocks do well.