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Are the Markets Too Optimistic?

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Dec. 4 2020, Updated 10:52 a.m. ET

Fed minutes have reintroduced policy uncertainty

Market participants were caught by surprise reading the Federal Reserve’s May meeting minutes, which indicated that the Federal Open Market Committee’s members were concerned about slowing growth in the US economy during 1Q17.

Markets (VTI) read into the minutes and interpreted a possible delay in the raising of interest rates in June 2017 if the data continue to disappoint. This uncertainty about the Fed’s policy played out in the markets in the week ended May 26, 2017. In this series, we’ll analyze how this change in tone has impacted markets and what lies ahead from a macroeconomic standpoint.

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Surprisingly, volatility remained low

In the previous week, despite the reintroduction of policy uncertainty, volatility in US equity markets remained low. The markets continued to move higher, with the S&P 500 Index (SPY) posting gains on every trading day of the week. At the end of the week, the index closed above the 2,400.0 mark, which has been acting as a technical and psychological hurdle for the last few weeks. Similar trends were observed in most global indexes during the week.

The CBOE Volatility Index VIX (VXX), which is a measure of market volatility, continued to trend lower, posting a close of $9.81 for the week ended May 26. This trend was surprising because recently, we’ve seen issues such as a ratings downgrade in China (FXI) (which hasn’t happened in 30 years) and a possible scandal surrounding the US presidency, events that should cause investors to move away from risky assets. Understanding this change in investor behavior could give us an idea of what lies ahead for the markets.

Series overview

In the coming parts of this series, we’ll analyze how these new developments have impacted equity, foreign exchange, and fixed income (BND) markets.

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