You all heard the phrases ‘Don’t fight the Fed’, and ‘ there is no alternative’. Can we be clear what these phrases really mean? They mean people are buying assets at prices they otherwise wouldn’t because a central planning committee is putting in market conditions that changes their market behavior.
People are paying forward multiples that are higher than they would if they earned higher interest income. The ‘desperate search for yield’ they call it. Think of it as a forced auction. You must pay, and you must pay more because you can’t bid on anything else and neither can anyone else hence there are now bidders for ever less available product (i.e. think shrinking share floats) driving prices wildly higher. And as central banks have become permanently dovish over the past decade Fed meetings are the principal impetus for rallies. Indeed most gains in markets come around days that have Fed Day written on them, a well established history going back decades now.
A fact the Fed itself is very well aware of:
“In a 2011 paper, New York Fed economists showed that from 1994 to 2011 almost all the S&P 500’s returns came in the 3 days around an FOMC decision. Over this period the index rose by 270%, and most of those gains happened the before, the day of, and the day after a Fed meeting.”
So Pavlovian has the response become that shorts automatically cover ahead of Fed meetings and investors buy ahead of Fed meetings expecting a positive response. The Fed is the market as it’s driving its entire behavior. The “Fed put” they call it. Another phrase that explicitly acknowledges that investors are orienting their risk profile behavior on what this unelected committee does.
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