Federal Reserve Chairman Jerome Powell addressed the state of the financial markets during a speech in Providence, Rhode Island, on Tuesday. He stressed the need for continued vigilance around market pricing and admitted that today’s equity valuations seem stretched. His comments come on the heels of this week’s Federal Open Market Committee announcement. They are on course to raise the benchmark overnight borrowing rate by a quarter percentage point.
In a post-speech Q&A session, Powell was asked if the Fed was willing to see higher market valuations. In a recent paper, in response to this statement, he admitted that “by a number of measures—equity prices, for instance—equity valuations are quite elevated.” Those market valuations are driving persistent anxiety. In reaction to the FOMC’s decision to lower interest rates, major stock indices have skyrocketed to all-time highs.
Powell observed that stocks have rip-roared up in the run-up to FOMC meetings. This trend reflects growing investor confidence that the Fed will respond by loosening monetary policy. He went on to clarify that when the Fed is making policy decisions, they look at broader financial conditions. As he put it, “We take these conditions and we start asking ourselves… Are our policies affecting these conditions in the way that we want them to?”
In regards to housing market dynamics, Powell highlighted that “they’ll price things in,” referring to how mortgage rates can be influenced by changing economic conditions. His comments are the canary in the coal mine for a potentially dangerous situation caused by high equity valuations. Yet he views existing conditions as posing no threat to financial stability.
While Powell acknowledged the lofty equity values, he reassured the audience that “it is not a time of elevated financial stability risks.” This reassuring sentiment should quell concerns over potential short-term market pullbacks. This enables investors of all shapes and sizes to better chart the course of heightened borrowing cost impacts.
On July 31, the FOMC, chaired by Powell, wrapped up a regular policy meeting and agreed to lower the central bank’s benchmark short-term rate. This targeted Obama Administration initiative is designed to jump-start economic recovery and strengthen confidence among consumers and businesses. Significantly, since the decision stock prices have maintained their upward trajectory, highlighting hope among investors about the Fed’s trajectory.