Don't Count on the Fed If the Market Tumbles -- Heard on the Street
20 May 2017 - 2:31AM
Dow Jones News
By Justin Lahart
After months of placid markets, many investors have probably
forgotten how much they have relied in recent years on the Federal
Reserve to halt any meltdown. Now that volatility has returned, the
Fed may not be there anymore.
This was a nerve-racking week in financial markets. At best, it
now seems like the White House and congressional Republicans will
have a harder time pushing through tax cuts. And at worst? This
week Wall Street analysts began passing around stock-market charts
from the Watergate era.
The so-called Fed put, where the central bank steps in to help
stop a selloff, has been part of the market's dynamics for years.
Starting with the financial crises of the 1990s, the central bank
has regularly put planned rate increases on hold, or rushed in with
rate cuts and other easing actions, during stock-market routs. That
history seemed on investors' minds during Wednesday's stock-market
selloff, with futures showing them dialing back their rate-increase
expectations for this year.
But now there are compelling reasons to believe that the Fed
won't come to the market's rescue.
First, a big reason the Fed has been so quick to act was that
the economic environment seemed so fragile that not acting might
put the economy at risk. That was true as recently as early last
year, when it dialed back its plans to raise rates in response to a
tangle of emerging-market, debt and currency woes that threatened
to sap the global economy.
Now, with the global economy healthy and growing, falling stock
prices don't seem nearly as dangerous.
Second, the stock market's influence on consumer spending seems
less certain than the Fed once believed. This is partly because not
as many Americans are invested in the stock market anymore, and
those that do are mostly better off. It is also because after years
of rising stocks and so-so consumer spending, economists have begun
to think that a rising stock market doesn't have much of an impact
on consumption. Rather, it was the economy's influence on both
stocks and spending that was at work.
Third, the Fed thinks the stock market is expensive. The minutes
from its March rate-setting meeting pointed out that price-earnings
ratios had become even more stretched, and that some Fed officials
"viewed equity prices as quite high relative to standard valuation
measures." A Fed that has grown concerned about valuation,
especially because it has been criticized in the past for fueling
market excess, likely wouldn't be all that interested in propping
up a market it already sees as pricey.
Of course, even with these considerations, a big enough fall
would likely get the Fed to act. The problem for investors is that
it is probably very far below where the stock market is now.
Write to Justin Lahart at justin.lahart@wsj.com
(END) Dow Jones Newswires
May 19, 2017 12:16 ET (16:16 GMT)
Copyright (c) 2017 Dow Jones & Company, Inc.