Market Commentary 6/30/19

The Fed "Franchise"

I must admit that it has been a long time since I went out to see a movie at a theater.  I guess that is not surprising since I am clearly no longer in Hollywood’s target demographic.  The movie studios may not be getting much of my entertainment dollars, but they seem to be doing fine at the box office.  The results are driven by a succession of action adventures based on superhero characters from our youth, or new characters that are derivations of those superheroes.  Hollywood now refers to the films as “franchises” based on multiple installments of sequels or prequels, and they are immensely profitable until the storylines no longer entice movie goers.

The Fed has been acting as a market franchise for some time, and it has been immensely profitable for many in the financial industry. Since the “great recession” of 2008-9 the Fed’s script has been the same; flood the markets with liquidity, push interest rates as low as possible, keep a market friendly public posture, and encourage other central banks to do the same. Banks have been major beneficiaries as low borrowing rates and interest on excess reserves at the Fed contributed to renewed profitability and provided an opportunity to rebuild balance sheets. Corporate financial executives saw historically low interest rates as an opportunity to tap the debt markets to add low cost debt to their balance sheets, often using the proceeds to buy back stock to improve earnings per share in the absence of more attractive growth projects. Stock market investors benefitted from the tremendous liquidity that flowed from the Fed through the banks that lifted stocks across the board, with the share price of many companies driven by price momentum rather than fundamentals. Among the only losers in this are fixed income investors who experienced a decline in yields and found limited alternatives to reinvest as their securities matured.

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