Chicago Fed President Questions Sanity of Insane Stock Melt-Up

From extreme pessimism in 2022 to extreme optimism in 2023, the stock market’s sentiment can swing wildly and unpredictably. This is just an aspect of human behavior that investors must learn to accept. Yet, irrationality has its limits, or at least it ought to.

Lifted on the backs of a handful of so-called “Magnificent Seven” mega-cap tech names, the stock market continues to print fresh short-term highs practically every day now. It’s been going on for a while now, but the most recent catalyst was the market’s reaction to the FOMC’s meeting from earlier this month.

Federal Reserve officials, according to the dot plot, have penciled in three 0.25% interest-rate cuts in 2024. Bullish stock traders assumed that the Fed will actually lower interest rates more than three times.

In actuality, there’s no guarantee that the Fed will cut interest rates at all. The dot plot isn’t written in stone, and the Federal Reserve isn’t required to abide by it. Still, the market is so forward-looking now that it’s pricing in assumptions months or even years in advance.

Not long after the FOMC meeting, New York Federal Reserve President John Williams attempted to warn the public about making unfounded assumptions. “We aren’t really talking about rate cuts right now,” he stated.

“I just think it’s just premature to be even thinking about that,” Williams added, referring to the futures market’s general belief that the Fed will lower interest rates in March. Then, Williams reminded people of the Fed’s inflation target, saying, “We just got to make sure that… inflation is coming back to 2% on a sustained basis.”

Courtesy: Tavi Costa

Despite Williams’ warning, the market sees what it wants to see. Investors in late 2023 have an uncanny ability to ignore economic conditions and pursue their chosen narrative, which currently is that the Fed can and will backstop the stock market regardless of what happens on Main Street.

Now, another Fed official is trying to send a cautionary note to the financial markets. Specifically, Chicago Fed President Austan Goolsbee pushed back on the idea that the Federal Reserve is actively planning on a series of rate cuts.

As Goolsbee explained, “We don’t debate specific policies, speculatively, about the future. We vote on that meeting.” So again, the forecasts shown in the FOMC dot plot aren’t written in stone, and the Fed officials didn’t actually agree at any point to cut interest rates.

Goolsbee added, “The market expectation of the number of rate cuts is greater than what the SEP projection is.” Really, the Chicago Fed President couldn’t be any clearer and more specific in his message than that.

Courtesy: BarChart.com

As mega-cap stocks push into “extreme greed” territory, prudent investors should wonder what it will take to sustain these price levels. If inflation pops back up – which could easily happen if the oil price rises – then the “extreme greed” bubble could pop at any given moment.

However, as Goolsbee seems to suggest, today’s investors can remain irrational for a surprisingly long time. “It’s not what you say, or what the chair says. It’s what did they hear, and what did they want to hear,” he observed.

Ultimately, Goolsbee is as perplexed as any reasonable observer ought to be. “I was confused a bit – was the market just imputing, here’s what we want them to be saying?” he asked.

Going forward into the new year, the market’s greed may persist for a while longer. Be prepared for investors to buy with both hands, and then get ready for them to sell with both hands once the tide of sentiment turns in the other direction.