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Is the Fed Only Helping US Stock Markets Right Now?

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The US stock markets have recovered swiftly from the lows hit in March. The S&P 500 (NYSEARCA:SPY) and the Dow Jones Industrial Average Index (NYSEARCA:DIA) have gained 26.3% and 25.1% since the lows on March 23.

Driving force behind US stock markets

The driving force behind the recovery in US stock markets, despite ongoing lockdowns amid COVID-19, has been the Federal Reserve’s stimulus package. However, not many hedge fund managers think that the stimulus will drive any significant future growth in the economy.

Stanley Druckenmiller and David Tepper on US stock markets

Stanley Druckenmiller is one of the hedge fund managers with doubts. While speaking to the Economic Club of NY, he said that the Fed’s stimulus package in March was “somewhat puzzling and aggressive.” He doesn’t think that these programs will spur future economic growth. Druckenmiller also thinks that the risk-reward ratio for the equity markets is the worst he has ever seen.

David Tepper said that the stock market is the second-most overvalued he has seen since the 1999 dot-com bubble. He also said, “The market’s pretty high and the Fed’s put a lot of money  in here … the market is by anybody’s standard pretty full.”

Fed supports stock markets, not the economy

As reported by ZeroHedge, BMO analyst Daniel Krieter said, “QE has fed through to the real economy in a slower manner than previous QE campaigns.” He discussed how the marginal utility of the debt has been declining. More time will be required to generate the same amount of growth as before. BMO also said, “The expansionary policy thus far has mostly resulted in increased asset prices.”

US stock market has economic reality disconnect

The Fed’s increased money supply isn’t leading to increased consumption. Instead, the money supply has been leading to higher financial asset prices. As a result, there’s a current disconnect between the stock markets and the economic reality in the US.

Read Can the US Stock Market’s Economic Reality Disconnect Continue? to learn more. While the US stock markets have experienced highs, every new economic reading is usually worse than before.

Additional support needed

During a webcast on May 13, Fed Chair Jerome Powell said that additional support will be needed to bring the economy out of the slump. He also quashed any hopes for negative interest rates in the US. He said that it “is not something that we are considering.” After Powell’s comments, the stock markets fell on Wednesday. The NASDAQ Composite Index (NYSEARCA:QQQ) fell by 1.55% on the same day. However, the Fed will follow an easy money policy for a long time if needed. On May 12, the Fed started buying corporate bond ETFs.

Fed’s stimulus

However, the Fed’s efforts haven’t led to a meaningful improvement in the economy. Without any corresponding improvement in the economic indicators, stock markets won’t be able to survive on their own. The scenario would only create a bubble that would burst at some time. As a result, investors should tread with caution. They should look at stock fundamentals instead of chasing momentum while making investment decisions.

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