Some market professionals see the frenzied short rush in GameStop and other stocks as signs of a bubble forming, but the Federal Reserve does not appear to be doing that, and therefore investors expect asset prices to continue to rise.
Fed Chairman Jerome Powell was asked on Wednesday at his post-meeting briefing about the potential of Fed policy to fuel market and home bubble bubbles.
Powell explained that the Fed has had to use its extraordinary policies to help the economy with more than 9 million people still out of work.
“It is very appropriate that monetary policy is accommodative,” he said. Powell also said that with regard to financial stability, the Fed takes into account asset prices, leverage in the banking and non-banking system, as well as funding risk.
“I would say vulnerabilities in financial stability are generally moderate,” he said, adding that the goals of the Fed are also to prevent long-term damage to the economy and ensure that the financial system is resilient. He said he believes the rise in house prices is temporary, and that the pandemic has caused a surge in demand as people work from home.
“I think he is reluctant to talk about specific stocks and even when asked about the housing market he feels that some of it is specific to the idea that supply was limited and there was pent-up demand and it is temporary, ”said Michael Arone, chief market strategist at State Street Global Advisors. “I wouldn’t expect the Fed Chairman to acknowledge that Fed policy is helping to create bubbles.”
The Fed’s zero-rate policy has contributed to a boom in mortgage lending with unprecedented low interest rates. House prices were up 9.5% in November from a year earlier, the strongest annual growth in more than six years, according to S&P CoreLogic Case-Shiller Home Price Indices. It’s one of the strongest annual gains in the data’s 30-year history.
Shares were lower on Wednesday, down 2.6%, the largest loss in three months. But GameStop upped its parabolic run on Wednesday, gaining 135% on the day itself. AMC is up 300%. GameStop continued to rise on Thursday-morning. Retail investors have also bought out of the call options in record time.
“A growing majority of investors know nothing about balance sheets and financial data and are less concerned about management’s vision for their businesses,” said Chris Rupkey, chief financial economist at MUFG Union Bank. “They like it because it’s cheap. It’s low in price and they prefer to buy it with options.”
Rupkey said the behavior smacks of a bubble and investors just think stocks will go higher. “If the bubble is triggered in part by the Federal Reserve’s policy, they won’t stop handing out money for the time being,” said Rupkey.
When the pandemic hit markets hard last March, the Fed responded quickly to the unprecedented shock by bringing interest rates to zero and rolling out programs that provided a range of tools to keep financial markets liquid.
The Fed has reversed a freeze in the credit markets and a stock market crash. Many of the programs are still in effect, with the exception of some that expired by the Treasury Department in December.
Arone said he is concerned that the Fed made a policy mistake this year.
“The less likely flaw is that they tighten prematurely. I think the flaw is more likely that they’ll create a bubble,” he said. “It’s exciting on the way up, but it ends when prices start to rise.”
Arone and other equity strategists had expected a downturn in the stock market at the beginning of the year, following the big rally in stocks since November. Any dip would create a buying opportunity as they expect the economy to improve as the vaccine is rolled out and fiscal stimulus measures are taken – and Fed policies remain supportive.
As for the short squeeze traders, Arone said it is a warning of bubble behavior. “What’s going on is that a group of people on Reddit are targeting stocks with high short interest rates. It’s very specific what’s going on with AMC and what’s going on with GameStop,” said he. “But I do think you have a growing investor class of very brutal people. You have this intersection of technology, zero commissions and fractional shares that this investor class is creating that is very aggressive, and with these platforms they can be a big group. flag. “
He said the Fed’s easy interest rate policy supports stocks. “I think it’s funny when we’re here in 2021 and all this started in the wake of the global financial crisis, maybe even earlier, the Fed manipulated interest rates below growth rates, below inflation. It supports asset prices,” he said.
Arone said the Fed and the markets also seem to disagree on whether more stimulus measures are needed. He said some investors clearly want the Fed to do more, but that the Fed is holding back further policies, such as changing the maturity of bonds it buys or increasing its purchases.
“I think behind the scenes the Fed is watching the markets. They won’t recognize some of the froth in some of these places,” he said. “But you can be sure that they see what’s going on and they probably don’t want to create another bubble.”
Powell said at the briefing that the latest asset price hike was not due to monetary policy, but news about vaccines and fiscal stimulus.
“He exaggerates the Fed’s ability to help the economy and underestimates its ability to help markets,” said Peter Boockvar, chief investment strategist at Bleakley Global Advisors. “He keeps deflecting.”
Boockvar said the Fed’s policy impact is clearly felt in all markets, including junk bonds where yields are historically low and some prices record highs.
“They are solely focused on the virus and they don’t care what the side effects are of what they are doing right now. Buying $ 80 billion in short-term treasures, how does that translate into better economic growth?” he said. Powell was so casual about these house price increases. It’s only temporary. Tell that to the first time a home buyer tries to buy a house and gets outbid all the time. ‘
Rupkey said the Fed is more concerned about other issues and doesn’t see a problem yet.
“This Federal Reserve will not respond to asset prices unless they rise another 100%. This Fed is more concerned than ever about maximizing employment,” said Rupkey, “helping people at the margins of the labor market.”