Displaying items by tag: fed

(New York)

The market has been doing great. So great in fact, that many are nervous about a swift correction. Despite this, the market continues to push for new all-time highs each week. Credit Suisse weighed in on the market in a big way this week. To be clear, the bank is not exactly bearish on the market. Their overall position is “We have remained overweight equities on the back of highly supportive policy, a high ERP [equity risk premium], the start of a bond-for-equity switch and huge excess liquidity, while tactical indicators are not yet sending a sell signal”. That said, the bank warned that there was one very “high” risk to the market: the Fed. Credit Suisse thinks there is a good chance that the Fed suddenly gets less dovish in the second half of the year after some good growth in 1H. This would be a dramatic turn for investors and could risk a sharp reversal.

FINSUM: We have to agree with this risk. The huge stimulus and excess liquidity which are flooding the market are major tailwinds, so if they reversed, it would be a shock. The whole set up reminds of us what occurred in Q4 2018.

(New York)

The fixed income market used to be where you went for safety and steady income. Those days seem long ago, and fixed income is not just as likely as any other asset class to eb the riskiest and most volatile in your portfolio. Between COVID and the Fed, interest rates are extremely low, with yields low and bond price very high, and vulnerable. Some have been comparing the situation to Japan in the 1990s and beyond, but there is a huge difference that makes the US bond market much worse than Japan ever was—inflation. When Japan started its massive zero rate, ultra-low yield period, it was experiencing deflation, which meant there was still a positive real rate. But that is not true in the US today, as yields are actually well below real-world inflation, meaning genuinely negative real interest rates.

FINSUM: There is ultimately going to have to be a reckoning in the bond market, because real returns are not sustainable. That said, it does not seem like the Fed is going to let that happen any time soon.

(Washington)

The Fed made some highly anticipated policy adjustments at the end of last week. This was not about short-term rate moves either, but rather about its long-term role in the recovery and how it plans to manage the economy. The biggest change seems rather small in wording. The Fed basically corrected its mandate to say that it would not automatically tighten policy just because employment had reached or exceeded what it consider to be “full employment”. In effect, this means that the Fed is ready, willing, able to let the economy run very hot for many years. Analysts think the Fed will likely not hike again until at least 2024.

FINSUM: So the Fed is going to be very accommodative for the next several years. It is starting to feel like equity valuations are going to have no choice but to rise as the Fed has taken “there is no alternative” to a never-before seen level for equities.

(New York)

Anyone who has been looking at the bond markets is likely to be shocked at the recent moves in the space. Many “high yield” bonds (it is now necessary to use quotes) are yielding what very high quality investment grade bonds were just months ago. A recent sale saw $1 bn of new issuance for a BB+ company at a 3% yield. The huge move downward in bond yields is the result of the Fed’s unprecedented stimulus action, and in particular, their mandate to backstop corporate bonds.

FINSUM: The Fed’s actions have been so warping that they have called into question the very definition of a high yield bond. If every bond is backed by the Fed, then it makes perfect sense that their yields would equalize. In this way the market’s reaction is entirely predictable.

(New York)

JP Morgan’s head of research, famed analyst Joyce Chang, published some very interesting views this week. She argues that the pandemic has forever changed financial markets, and highlights what she says are four “paradigm shifts” that COVID has caused. The biggest of those from a market direction perspective is about the Fed. She contends that the huge and extraordinary measures central banks have undertaken in the last few months have fundamentally changed the role of central banks towards financial stability (something they were arguably already focusing on).

FINSUM: In our mind it has become very obvious over the last few years, and especially during the pandemic, that the Fed’s most important mandate is financial stability.