However, their worst fear is a combination of the two economic conditions known as stagflation.
Stagflation happens with the economy slows dramatically, but prices climb sharply. Usually those two events are mutually exclusive.
But, not always. In rare cases, a slowing economy can combine with higher prices (usually pushed up by high oil prices, for example) to produce an economic condition that is dangerous to the economy and the stock market.
The U.S. went through a period of stagflation during the 1970s that saw long lines a gas pumps, high unemployment, high interest rates and a recession.
The problem with stagflation is that the usual ways to correct the economy can make the problem worse.
For example, when the economy is slowing down, one of the ways to stimulate it is to lower interest rates or cut taxes or both.
However, the cure for inflation is traditionally been to raise interest rates.
During stagflation, interest rates may already be high (thus slowing business growth more), lowering interest rates to stimulate the economy may make inflation that much worse.
Yet, if interest rates are raised to combat inflation, that strategy may slow the economy even more.
Stock investors are hit either way.
A slowing economy hurts corporate growth and profits, which limits stock price appreciation.
On the other hand, inflation robs companies of value by raising prices of everything.
Companies can pass some of the increase along, but when goods are worth less each day it robs companies of value.
For investors, the best strategy is to stay invested, but well-diversified.
Consider some foreign stocks in the mix to take advantage of economies that may not be under the influence of stagflation.
