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Investors will have to absorb the consequences of too much liquidity and leverage in all pockets of the market, says Prudential’s chief market strategist.

February 01, 2021


  • The Fed is prepared to allow interest rates to run above its long-standing 2% inflation target, as it seeks to ensure maximum employment.
  • “Mania” was adopted to chronicle the daily moves by the retail traders pouring into GameStop—in a daring “gamma squeeze”—and other stocks.
  • Apprehension about monetary and fiscal stimulus fueling excessive risk-taking has been tempered by the market sell-off.

Every so often, the famous warning from former Chairman of the Federal Reserve Alan Greenspan on Dec. 5, 1996—“How do we know when irrational exuberance has unduly escalated asset values, which then become subject to unexpected and prolonged contractions?”—resurfaces in a much simpler form: the market is forming a bubble similar to 1999. Back then, it was a period of intense optimism, in which profits didn’t matter; it was a dot-com boom regardless of what came before the dot. It was the “New Paradigm”—until it wasn’t.

As the Greenspan Fed began raising rates in 1999 and 2000—Jan. 1, 1999, the 10-year Treasury was 4.72%; Jan. 1, 2000, the 10-year Treasury was 6.66%—in order to ward off potential inflationary pressures stemming from the strong economy, market strategists continued to stress that the technology sector, for the most part, was immune to higher rates. In February 2000, with Y2K concerns forgotten, Greenspan’s semiannual testimony to Congress prompted markets to pull back when he suggested that further interest rate hikes would be necessary. NASDAQ, home to the booming technology sector, would peak on March 10, 2000.

Of course, each market chapter is unique, with distinct contributing characteristics and events, but there’s typically a recurring theme of a shift in Federal Reserve monetary policy that telegraphs tightening on the horizon.

Federal Reserve Chairman Jerome Powell has said numerous times that the Fed is prepared to allow rates to run above its long-standing 2% inflation target before raising interest rates, as it seeks to ensure maximum employment. Powell outlined what constitutes a strong labor market from the Fed’s perspective, including wage growth and full workforce participation that incorporates minorities, before declaring that maximum employment has been achieved.

With the prospect of another fiscal relief/stimulus package, coupled with low interest rates, and a Fed committed to keeping rates low for longer, concerns are growing louder and louder that the so-called “Reddit day traders” are being fueled by central bank easy money and fiscal largesse.

Read Quincy Krosby’s full February 2021 market commentary, “"Too Much of a Good Thing?”.

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References include the following: Associated Press, Barron’s, Bespoke Investment Group, Bloomberg, CNBC, Cornerstone Macro Research, The Economist, Evercore ISI, Federal Reserve, The Financial Times, Fox Business, Goldman Sachs, International Monetary Fund, Morgan Stanley, The New York Times, Real Money – TheStreet, Renaissance Macro, Reuters and The Wall Street Journal.

The views and opinions are those of the author at the time of publication and are subject to change at any time due to market or economic conditions. This document has been prepared solely for informational purposes. This is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The Prudential Insurance Company of America, Newark, NJ, and its affiliates. Prudential and its distributors and representatives do not provide tax, accounting, or legal advice. Please consult your own attorney or accountant. In providing these materials, the issuing companies and distributor listed above are not acting as your fiduciary as defined by any applicable laws and regulations.

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