10 ms·

Yellen cites 'potential dangers' in U.S. stock valuations

77 points by claywm 11y ago

pa5tabear 11y ago
Time to rebalance into bonds?
- volkadav 11y ago
  Some people (e.g. Bill Gross) think there's a bond bubble too. As bond prices and interest rates are inversely correlated, and it's hard for rates to go anywhere but up at the moment, imho they're probably right. I don't think anyone has a good handle on what asset classes are particularly safe (or, equivalently, will yield reasonable returns over the near-intermediate term) at the moment. My best guess is that P/E ratios are still fairly sane-ish, so my investments are in stocks atm. YMMV, I am not an investment adviser, etc.
  - gfodor 11y ago
    "Rates don't have anywhere to go but up" is an argument I've seen used often but it doesn't hold water. First, the 10yr is at 2.25% right now, and nominal yields have hit negative in other countries, so we could go there. Or, rates could just churn for a decade. Both of these are completely plausible scenarios.
  - AnimalMuppet 11y ago
    A bubble? No. A bubble is more than just "asset prices are higher than they should be". Take stocks or real estate. The price goes up. People see the price going up. They buy, because they want to buy something where the price is going up so that they will make money. That buying increases demand without increasing supply, so the price goes up some more. That's a bubble - where the price goes up because people are buying because the price is going up (and so they think it's going to keep going up). It's a positive feedback loop. But bonds... nobody's buying bonds because they think the price is going to go up. They're buying bonds because they think bonds are safe. But, in fact, bonds aren't very safe. The next direction interest rates will move is up; when they do, bond prices will fall. The longer term the bonds, the more the price will fall. Note well: I am not an economist. I am not an investment advisor. This is my understanding of how things work, but it is not financial advice.
- shawn-furyan 11y ago
  I would note that reactionary investment allocation is generally relatively extremely expensive (due to transaction costs) for retail investors, and Fed statements aren't exactly under the radar. Long, markets-wide, diversified positions tend to work out best for retail investors. Switching from heavy positions in one asset class to heavy positions in another tends to benefit investment firms, without reliably lowering investor risk. It's hard to guess where the market is going, and the transaction costs of frequent position changes, even at institutional investor rates, can quickly outstrip gains of a correct guess.
- snowwrestler 11y ago
  IMO your balance should reflect your progress toward investing goals, not trying to outguess the market. You know better than anyone about your own goals and progress, so you can make reliable decisions based on that information. No one knows what the market is going to do next, and even if we assume a range of predictive accuracy, you're probably low in that range unless you spend a tremendous amount of time getting and analyzing economic data. So, you can't make reliable decisions based on that information.
- spot 11y ago
  trying to time the market is a losing game. the winning game: 1) invest in broad-based, low-fee indices as regularly as you can. 2) try to forget about them.
- pyrrhotech 11y ago
  No, bonds are the last place you want to be right now. That potentially sharp rise in longterm rates is highly dangerous for the bond market. If rates go up, bond prices go down. I'd stay in safe stocks or cash
- sixdimensional 11y ago
  Traditional economic logic says that bond prices have an inverse relationship with interest rates. That means if you buy bonds now, and interest rates shoot up, the underlying price/value of that bond will plummet. This is especially bad if you have callable bonds, because the bond holder can call them at any time, forcing you to essentially receive the value of the bond at the time of the call - even if the price/value has plummeted due to increasing interest rates. Be cautious investing in bonds, and if you do, you might consider holding them to maturity if interest rates go up and prices/value goes down (and hope they don't get called). I personally think it's a scary time - interest rates going up will have an effect on prices of bonds, stocks, and more. So while you earn more interest if you own fixed income assets, the value of those assets decreases and you can get stuck. That said... IMHO, the raising of interest rates... I think really needs to start happening before the artificially low rates creates a different kind of animal altogether.
kolbe 11y ago
Back when the Fed started its first QE program, I thought it was a pretty risky bet. I felt that all QEs have gone far beyond providing emergency liquidity, and instead conceded that asset prices were/are unsustainably high. But one thing that would bail out an overpriced market for assets was to have a domestic economic revolution that rivaled WW2 rebuilding or the tech revolution. So, their reaction was to actually continue to prop up asset prices. Forget the Taylor Rule and whatever. The Fed wanted to give asset prices a floor. By attempting to give asset prices a floor, it was simply buying us time to have a solid economic revival that goes beyond juicing GDP with credit and entitlements. That was over five years ago. We chose to invest this capital in three routes. One is domestic oil production. It may be a little early to tell, but it looks like all that money will have been wasted. So, net effect on the economy may end up being that we wasted time, money and natural resources in building useless machines in the middle of nowhere that added an unfathomable amount of carbon to our atmosphere. The other is Silicon Valley tech and biotech. So far, that has not been a bust, but I'm not sure it's playing out quite as well as we need it to. SV has a strange dynamic where the efficiencies and labor displacements that it has been bringing about may actually be harming our economy. Biotech sounds cool, but it may just be a new rent seeking industry that sucks off the teat of inefficiencies of socialized medicine. Needless to say, I don't think any of these industries are anywhere near the level of revolution they need to be to actually justify asset price levels. They can be good, but I doubt that good. So, regarding 'potential dangers' in asset price overvaluations. Umm, no shit?
- protomyth 11y ago
  "One is domestic oil production. It may be a little early to tell, but it looks like all that money will have been wasted. So, net effect on the economy may end up being that we wasted time, money and natural resources in building useless machines in the middle of nowhere that added an unfathomable amount of carbon to our atmosphere." How is the money wasted given the large production and downward price pressure on energy? This shift in price of gas at the pump has done quite a lot for the working poor in terms of cash on hand. Also, "middle of nowhere" as a description is a bit insulting and I don't think most people in a city would like to have oil wells next door. Some things happen away from the coasts.
kyledrake 11y ago
Chart one, DJIA, 1982 to 2014: http://i.imgur.com/29GT453.png http://i.imgur.com/29GT453.png Note that it's even higher now on the end of that chart, so push it to 18,000 and you've got the comparison. That chart, at a bare minimum, whether you think we're dealing with "irrational exuberance" or not, should tell you that we're in an exceptional period in the stock market. Chart two, federal funds rate, 1954 through 2009: http://upload.wikimedia.org/wikipedia/commons/thumb/3/31/Federal_Funds_Rate_1954_thru_2009_effective.svg/640px-Federal_Funds_Rate_1954_thru_2009_effective.svg.png http://upload.wikimedia.org/wikipedia/commons/thumb/3/31/Fed... That funds rate is still that low. Whether you think it's too low or not, it's pretty obvious that this is an exceptional period for access to low-interest money. I'm watching the real estate market spike up much faster than wages (again), and billions get poured into tech companies who's business model really just isn't there and/or heavily depends on advertising (advertising rates collapsed after 2000, by a lot). I was worried about the valuations a year ago, and now they're even higher. And of course, it's pushing a lot of private valuations up too. The more money publicly traded corporations have, the better your chances of selling a private company at a high value, or going public without good fundamentals. I think there's just too much money sloshing around right now. Excess money doesn't go into CPI anymore, it more often creates valuation fevers. I don't think the overnight rates should have been this low for so long. And I'm pretty worried about what's going to happen when they finally start raising them, but not as worried as what happens if they continue to leave them as-is.
- EliRivers 11y ago
  Chart one, DJIA, adjusted for inflation: http://home.earthlink.net/~intelligentbear/dj-lt-infl.gif http://home.earthlink.net/~intelligentbear/dj-lt-infl.gif When you take inflation into account, it doesn't look nearly so interesting.
  - MarkPNeyer 11y ago
    it actually looks like things are getting _more_ stable.
  - Pxtl 11y ago
    Much better. Also logarithmic, which was another failing of the above graph. With a line of best fit! Yes, if the market is overinflated, it's because growth itself has failed to happen.
cdnsteve 11y ago
“What is needed is a culture that induces bankers to do the right thing even if nobody is watching,” Lagarde said in her prepared remarks. Do bankers now get paid for doing the right thing? Because if they don't, it's not going to happen.
- spot 11y ago
  how about we fine them if they do the wrong thing (and even throw them in jail if its bad enough).
  - altcognito 11y ago
    It's really too late by then, and you're counting on enforcement which we really lack right now.
    - spot 11y ago
      "how about" means i am proposing enforcement. i am well aware that it is lacking.
- adaml_623 11y ago
  It would be a good intermediate step to define 'the right thing'. And then to pay them for doing the right thing.
  - toomuchtodo 11y ago
    Or perhaps put a framework into place that prevents them from doing anything other than the right thing?
    - saryant 11y ago
      But what is the right thing? Fannie and Freddie shoved mortgages through the pipeline to both increase their profits and fulfill their stated goal of increasing American home ownership. The latter is what most considered to be "the right thing" including their regulators. But then the law of unintended consequences reared its ugly head, housing prices started to fall and we all realized how tied together that securitization pipeline had become. Investors bought credit swaps on their mortgage bonds to protect their downside and move the assets off their balance sheets in order to buy more mortgage bonds—also allowing retail banks to create more mortgages, further increasing home ownership. The companies who sold those swaps (AIG) assumed that housing prices would never fall and default rates would never rise. They were wrong. As soon as that black swan event happened and Bear, Lehman et al had to start marking losses on those MBS products, the market pounced. Then AIG had to start paying those swaps but couldn't (hence the nationalization). While there were definitely bad actors (those handing out liar loans and so forth), at any individual stage in that massive, trillion-dollar pipeline, most actors were behaving in a way that rationally made sense. Banks sought to hedge their downside by buying CDSs against their MBS products. Insurers trusted the ratings agencies. The ratings agencies were too weak to do anything despite internal misgivings about those MBS products (and of course the incentive structure there is all sorts of stupid). The investment banks definitely twisted arms at the ratings agencies to get investment-grade ratings on what were truly junk bonds and that was bad on their part and arguably fraud, so yes, someone should probably be liable for that. But what could've been done differently at the macro level to ensure that every actor in that pipeline acted in the interest of the "greater good" when we can't even define what that is? Yes, we could have tighter controls on mortgage underwriting standards but will that prevent the next crash? How do we hold someone liable for not avoiding a crash? We can't even tell when a crash is coming, are we honestly going to blame someone for not being able to do the impossible?
deleted 11y ago
[deleted]
dataker 11y ago
The irony here is that Yellen is the chair of the Federal Reserve. It's analogous to Malboro's CEO warning smokers about lung cancer.
- jpmattia 11y ago
  Yes, I'm surprised that didn't make bigger headlines. "Hoocoodanode that our easy monetary policy would have inflated stock prices?!"
fredkbloggs 11y ago
If an arsonist burned down every forest in North America, then had the stones to give interviews in which he complained about air pollution, we'd properly call him a dangerous nut and lock him up for life. Apparently if you're an economist and you do the same thing, you are instead given the world's most powerful job.

77 points by claywm 11y ago

pa5tabear 11y ago

Time to rebalance into bonds?

volkadav 11y ago
Some people (e.g. Bill Gross) think there's a bond bubble too. As bond prices and interest rates are inversely correlated, and it's hard for rates to go anywhere but up at the moment, imho they're probably right. I don't think anyone has a good handle on what asset classes are particularly safe (or, equivalently, will yield reasonable returns over the near-intermediate term) at the moment. My best guess is that P/E ratios are still fairly sane-ish, so my investments are in stocks atm. YMMV, I am not an investment adviser, etc.
- gfodor 11y ago
  "Rates don't have anywhere to go but up" is an argument I've seen used often but it doesn't hold water. First, the 10yr is at 2.25% right now, and nominal yields have hit negative in other countries, so we could go there. Or, rates could just churn for a decade. Both of these are completely plausible scenarios.
- AnimalMuppet 11y ago
  A bubble? No. A bubble is more than just "asset prices are higher than they should be". Take stocks or real estate. The price goes up. People see the price going up. They buy, because they want to buy something where the price is going up so that they will make money. That buying increases demand without increasing supply, so the price goes up some more. That's a bubble - where the price goes up because people are buying because the price is going up (and so they think it's going to keep going up). It's a positive feedback loop. But bonds... nobody's buying bonds because they think the price is going to go up. They're buying bonds because they think bonds are safe. But, in fact, bonds aren't very safe. The next direction interest rates will move is up; when they do, bond prices will fall. The longer term the bonds, the more the price will fall. Note well: I am not an economist. I am not an investment advisor. This is my understanding of how things work, but it is not financial advice.
shawn-furyan 11y ago
I would note that reactionary investment allocation is generally relatively extremely expensive (due to transaction costs) for retail investors, and Fed statements aren't exactly under the radar. Long, markets-wide, diversified positions tend to work out best for retail investors. Switching from heavy positions in one asset class to heavy positions in another tends to benefit investment firms, without reliably lowering investor risk. It's hard to guess where the market is going, and the transaction costs of frequent position changes, even at institutional investor rates, can quickly outstrip gains of a correct guess.
snowwrestler 11y ago
IMO your balance should reflect your progress toward investing goals, not trying to outguess the market. You know better than anyone about your own goals and progress, so you can make reliable decisions based on that information. No one knows what the market is going to do next, and even if we assume a range of predictive accuracy, you're probably low in that range unless you spend a tremendous amount of time getting and analyzing economic data. So, you can't make reliable decisions based on that information.
spot 11y ago
trying to time the market is a losing game. the winning game: 1) invest in broad-based, low-fee indices as regularly as you can. 2) try to forget about them.
pyrrhotech 11y ago
No, bonds are the last place you want to be right now. That potentially sharp rise in longterm rates is highly dangerous for the bond market. If rates go up, bond prices go down. I'd stay in safe stocks or cash
sixdimensional 11y ago
Traditional economic logic says that bond prices have an inverse relationship with interest rates. That means if you buy bonds now, and interest rates shoot up, the underlying price/value of that bond will plummet. This is especially bad if you have callable bonds, because the bond holder can call them at any time, forcing you to essentially receive the value of the bond at the time of the call - even if the price/value has plummeted due to increasing interest rates. Be cautious investing in bonds, and if you do, you might consider holding them to maturity if interest rates go up and prices/value goes down (and hope they don't get called). I personally think it's a scary time - interest rates going up will have an effect on prices of bonds, stocks, and more. So while you earn more interest if you own fixed income assets, the value of those assets decreases and you can get stuck. That said... IMHO, the raising of interest rates... I think really needs to start happening before the artificially low rates creates a different kind of animal altogether.

kolbe 11y ago

Back when the Fed started its first QE program, I thought it was a pretty risky bet. I felt that all QEs have gone far beyond providing emergency liquidity, and instead conceded that asset prices were/are unsustainably high. But one thing that would bail out an overpriced market for assets was to have a domestic economic revolution that rivaled WW2 rebuilding or the tech revolution. So, their reaction was to actually continue to prop up asset prices. Forget the Taylor Rule and whatever. The Fed wanted to give asset prices a floor. By attempting to give asset prices a floor, it was simply buying us time to have a solid economic revival that goes beyond juicing GDP with credit and entitlements. That was over five years ago. We chose to invest this capital in three routes. One is domestic oil production. It may be a little early to tell, but it looks like all that money will have been wasted. So, net effect on the economy may end up being that we wasted time, money and natural resources in building useless machines in the middle of nowhere that added an unfathomable amount of carbon to our atmosphere. The other is Silicon Valley tech and biotech. So far, that has not been a bust, but I'm not sure it's playing out quite as well as we need it to. SV has a strange dynamic where the efficiencies and labor displacements that it has been bringing about may actually be harming our economy. Biotech sounds cool, but it may just be a new rent seeking industry that sucks off the teat of inefficiencies of socialized medicine. Needless to say, I don't think any of these industries are anywhere near the level of revolution they need to be to actually justify asset price levels. They can be good, but I doubt that good. So, regarding 'potential dangers' in asset price overvaluations. Umm, no shit?

protomyth 11y ago
"One is domestic oil production. It may be a little early to tell, but it looks like all that money will have been wasted. So, net effect on the economy may end up being that we wasted time, money and natural resources in building useless machines in the middle of nowhere that added an unfathomable amount of carbon to our atmosphere." How is the money wasted given the large production and downward price pressure on energy? This shift in price of gas at the pump has done quite a lot for the working poor in terms of cash on hand. Also, "middle of nowhere" as a description is a bit insulting and I don't think most people in a city would like to have oil wells next door. Some things happen away from the coasts.

kyledrake 11y ago

Chart one, DJIA, 1982 to 2014: http://i.imgur.com/29GT453.png http://i.imgur.com/29GT453.png Note that it's even higher now on the end of that chart, so push it to 18,000 and you've got the comparison. That chart, at a bare minimum, whether you think we're dealing with "irrational exuberance" or not, should tell you that we're in an exceptional period in the stock market. Chart two, federal funds rate, 1954 through 2009: http://upload.wikimedia.org/wikipedia/commons/thumb/3/31/Federal_Funds_Rate_1954_thru_2009_effective.svg/640px-Federal_Funds_Rate_1954_thru_2009_effective.svg.png http://upload.wikimedia.org/wikipedia/commons/thumb/3/31/Fed... That funds rate is still that low. Whether you think it's too low or not, it's pretty obvious that this is an exceptional period for access to low-interest money. I'm watching the real estate market spike up much faster than wages (again), and billions get poured into tech companies who's business model really just isn't there and/or heavily depends on advertising (advertising rates collapsed after 2000, by a lot). I was worried about the valuations a year ago, and now they're even higher. And of course, it's pushing a lot of private valuations up too. The more money publicly traded corporations have, the better your chances of selling a private company at a high value, or going public without good fundamentals. I think there's just too much money sloshing around right now. Excess money doesn't go into CPI anymore, it more often creates valuation fevers. I don't think the overnight rates should have been this low for so long. And I'm pretty worried about what's going to happen when they finally start raising them, but not as worried as what happens if they continue to leave them as-is.

EliRivers 11y ago
Chart one, DJIA, adjusted for inflation: http://home.earthlink.net/~intelligentbear/dj-lt-infl.gif http://home.earthlink.net/~intelligentbear/dj-lt-infl.gif When you take inflation into account, it doesn't look nearly so interesting.
- MarkPNeyer 11y ago
  it actually looks like things are getting _more_ stable.
- Pxtl 11y ago
  Much better. Also logarithmic, which was another failing of the above graph. With a line of best fit! Yes, if the market is overinflated, it's because growth itself has failed to happen.

cdnsteve 11y ago

“What is needed is a culture that induces bankers to do the right thing even if nobody is watching,” Lagarde said in her prepared remarks. Do bankers now get paid for doing the right thing? Because if they don't, it's not going to happen.

spot 11y ago
how about we fine them if they do the wrong thing (and even throw them in jail if its bad enough).
- altcognito 11y ago
  It's really too late by then, and you're counting on enforcement which we really lack right now.
  - spot 11y ago
    "how about" means i am proposing enforcement. i am well aware that it is lacking.
adaml_623 11y ago
It would be a good intermediate step to define 'the right thing'. And then to pay them for doing the right thing.
- toomuchtodo 11y ago
  Or perhaps put a framework into place that prevents them from doing anything other than the right thing?
  - saryant 11y ago
    But what is the right thing? Fannie and Freddie shoved mortgages through the pipeline to both increase their profits and fulfill their stated goal of increasing American home ownership. The latter is what most considered to be "the right thing" including their regulators. But then the law of unintended consequences reared its ugly head, housing prices started to fall and we all realized how tied together that securitization pipeline had become. Investors bought credit swaps on their mortgage bonds to protect their downside and move the assets off their balance sheets in order to buy more mortgage bonds—also allowing retail banks to create more mortgages, further increasing home ownership. The companies who sold those swaps (AIG) assumed that housing prices would never fall and default rates would never rise. They were wrong. As soon as that black swan event happened and Bear, Lehman et al had to start marking losses on those MBS products, the market pounced. Then AIG had to start paying those swaps but couldn't (hence the nationalization). While there were definitely bad actors (those handing out liar loans and so forth), at any individual stage in that massive, trillion-dollar pipeline, most actors were behaving in a way that rationally made sense. Banks sought to hedge their downside by buying CDSs against their MBS products. Insurers trusted the ratings agencies. The ratings agencies were too weak to do anything despite internal misgivings about those MBS products (and of course the incentive structure there is all sorts of stupid). The investment banks definitely twisted arms at the ratings agencies to get investment-grade ratings on what were truly junk bonds and that was bad on their part and arguably fraud, so yes, someone should probably be liable for that. But what could've been done differently at the macro level to ensure that every actor in that pipeline acted in the interest of the "greater good" when we can't even define what that is? Yes, we could have tighter controls on mortgage underwriting standards but will that prevent the next crash? How do we hold someone liable for not avoiding a crash? We can't even tell when a crash is coming, are we honestly going to blame someone for not being able to do the impossible?

deleted 11y ago

[deleted]

dataker 11y ago

The irony here is that Yellen is the chair of the Federal Reserve. It's analogous to Malboro's CEO warning smokers about lung cancer.

jpmattia 11y ago
Yes, I'm surprised that didn't make bigger headlines. "Hoocoodanode that our easy monetary policy would have inflated stock prices?!"

fredkbloggs 11y ago

If an arsonist burned down every forest in North America, then had the stones to give interviews in which he complained about air pollution, we'd properly call him a dangerous nut and lock him up for life. Apparently if you're an economist and you do the same thing, you are instead given the world's most powerful job.