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Fed Folds Its Arms Leaving Investors Feckless

US Federal Reserve

  • Anticipated intervention by the U.S. Federal Reserve to reign in soaring Treasury yields fails to materialize, with investors dumping pricey tech stocks 
  • Fed cannot be seen to be acting (even if verbally) in a knee-jerk manner to shifts in U.S. Treasury yields, otherwise it could be interpreted as working at the behest of the market, but nonetheless will intervene if borrowing costs for the U.S. government become excessive 

Oops, turns out that the markets have a fickle friend in the Fed. As investors sat on the sidelines prior to U.S. Federal Reserve Chairman Jerome Powell weighing in on the selloff in U.S. Treasuries, disappointment was on the face of market bulls as Powell recommitted the central bank to an economic recovery whose pace was picking up, without offering more aggressive asset purchases to reign in Treasury yields.

A theory hatched last summer that the only thing stopping the megacap tech rally would be a recovering economy is appearing increasingly prescient.

Economic optimism is pushing up U.S. Treasury yields, creating competition for dollars that puts stress on share valuations that have soared to bubble-era levels.

As the yield on U.S. 10-year Treasuries surged past 1.5% again yesterday, Powell did little to suggest that he’s in any way flustered by the runup in bond yields, let alone what that means for stocks.

And as more Americans get vaccinated, investors have been left scratching their heads to determine how to price online companies, whose business models have flourished when the world couldn’t come out. Could the post-pandemic era result in a flurry in travel and physical retail from populations deprived of social contact for so long, or could some of the changes in consumer behavior because of the pandemic end up being durable?

For months, investors have had little choice but to bet on the likes of Apple (-1.58%) and Amazon (-0.91%) – the only shows in town when it came to earnings growth – but now it’s possible to punt on airlines, cruise operators and retail chains as well.

The other issue of course is that tech has become overweight relative to the rest of the market.
At 27% of the S&P 500, tech firms are double the next biggest industry component of the benchmark index.

Analysts have been warning for months that growth and tech stocks had gotten ahead of themselves – whether it was the economy recovering, or a return to normalcy – investors were paying a premium because they had no choice, but now they do.

But while the Fed may be nonplussed about tech stocks or the markets in general, they will want to ensure that the U.S. government is still able to access credit at a reasonable price. And while Treasury yields have spiked in recent days, they have also showed reasonable restraint, pushing boundaries to test the Fed’s resolve.

Should yields continue to gallop higher, the Fed will at some point have to intervene, whether verbally or through ratcheting up asset purchases – especially given that the Biden administration looks likely to pass its US$1.9 trillion fiscal stimulus package.

For the plucky investor, this may be an opportunity load up on some of the stocks whose prices may have run ahead of their prospects.

Because while the figures on the coronavirus are improving, a return to the free-wheeling days before the pandemic may still be some ways away. 

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