By Vaughn Hoisington | USA
For years, the U.S. Federal Reserve has partaken in quantitative easing in an attempt to keep the market stable and keep inflation at the intended rate. These large asset purchases by central bankers have tended to maintain control of the stock market by using Keynesian tactics, but with the central bank asset purchases set for 2018 being the lowest of the decade, Citi’s Hans Lorenzen believes control of the stock market will be lost.
The low stimulus package isn’t the only red flag Lorenzen sees. The nearly historic low volatility has maintained its level for longer than ever, while “more risk than ever before is being issued into a credit market where spreads, on a like-for-like basis, are close to the 2007 tights and where breakevens are wafer thin.” These are just some of the reasons that the Citibank strategist views 2018 as being a very vulnerable year for a mid-cycle, technical correction.
Lorenzen stated that removing policy accommodation at a rate that wouldn’t cause a chain-link reaction of market backlashes “seems to be a growing fear among a number of central bankers that we have spoken to recently. In our experience, they too are somewhat baffled by the lack of volatility and concerned about the lack of response to negative headlines…. Our guess is that sooner or later in the process of retrenchment they will end up going too far – though that will only be obvious with hindsight.”
The central bank asset purchases are no longer stimulating the market, they are only prolonging the inevitable crash. “the longer we remain in the current paradigm, the greater the chance that it ends up being both sharp and painful.”