To veterans of financial bubbles, there is plenty familiar about the present.
As a result, the 10-year Treasury bond yield is well below inflation—that is, real yields are deeply negative —for only the second time in 40 years.
Yet in great part thanks to the Fed and Congress, which has passed some $5 trillion in fiscal stimulus, this recovery looks much healthier than the last.
In the late 1990s its willingness to cut rates in response to the Asian financial crisis and the near collapse of the hedge fund Long-Term Capital Management was seen by some as an implicit market backstop, inflating the ensuing dot-com bubble.
While the Fed cut rates to near zero and bought bonds then as well, it was battling powerful headwinds as households, banks, and governments sought to pay down debts.
The pandemic shutdown a year ago triggered a hit to economic output that was initially worse than the financial crisis.
It actually fell less than half that, but Democrats, after winning both the White House and Congress, pressed ahead with the same size stimulus.
The Fed began buying bonds in March, 2020 to counter chaotic conditions in markets.
At the same time it unveiled a new framework: After years of inflation running below 2%, it would aim to push inflation not just back to 2% but higher, so that over time average and expected inflation would both stabilize at 2%.
This injection of unprecedented monetary and fiscal stimulus into an economy already rebounding thanks to vaccinations is why Wall Street strategists are their most bullish on stocks since before the last financial crisis, according to a survey by Bank of America Corp.
Investors are willing to buy the bonds of junk-rated companies at the lowest yields since at least 1995, and the narrowest spread above safe Treasurys since 2007, according to Bloomberg Barclays data.
Stock and property valuations are more justifiable today than in 2000 or in 2006 because the returns on riskless Treasury bonds are so much lower.
Bank of America recently noted companies with relatively low carbon emissions and higher water efficiency earn higher valuations.
“Crypto has the potential to be as revolutionary and widely adopted as the internet,” claims the prospectus of the initial public offering of crypto exchange Coinbase Global Inc., in language reminiscent of internet-related IPOs more than two decades earlier.
Financial innovation is also at work, as it has been in past financial booms. Portfolio insurance, a strategy designed to hedge against market losses, amplified selling during the 1987 stock market crash.
It found, for example, that since 2017 trading volume in exchange-traded funds that track the S&P 500, a favorite of institutional investors, has flattened while the volume in its component stocks, which individual investors prefer, has climbed.
Jim Bianco, the head of financial research firm Bianco Research, said flows into exchange-traded funds and mutual funds jumped in March as the Treasury distributed $1,400 stimulus checks.
It doesn’t have to: High-priced stocks could eventually earn the profits necessary to justify today’s valuations, especially with the economy’s current head of steam.
was once about the only stock you could buy to bet on electric vehicles; now there is China’s NIO Inc., Nikola Corp., and Fisker Inc., not to mention established manufacturers such as Volkswagen AG and General Motors Co.
If junk bonds, cryptocoins or tech stocks are bought primarily with borrowed money, a plunge in their values could precipitate a wave of forced selling, bankruptcies and potentially a crisis.
Nonetheless, the difference between yields on regular and inflation-indexed bond yields suggest investors are expecting inflation in coming years to average about 2.5%.
In recent months that stock-bond correlation, in place for most of the last few decades, began to disappear, said Brian Sack, a former Fed economist who is now with hedge fund D.E.
But if the unprecedented combination of monetary and fiscal stimulus succeeds in jolting the economy out of the last decade’s pattern, that complacency could prove quite costly.