Summary
- Fed warns of potential ‘significant decline’ in the asset prices.
- Fed governor calls for stronger safeguard.
- The US apex bank also warns about potential deterioration in the asset quality.
The US Federal Reserve (Fed) has warned that rising asset prices in the equity market are posing threats to the financial system.
The American central bank believes that the asset prices may be “vulnerable to significant declines” if investors’ risk appetite falls, progress on containing the virus disappoints, or the recovery stalls.
In semiannual Financial Stability Report (FSR), the US’ central bank especially warned that some sectors in the economy – energy, travel and hospitality – are more vulnerable to the pandemic.
The asset classes across the board have seen a huge boom, despite the real economies facing a lot of pain points. The equity benchmarks have doubled in the past year, cryptocurrencies have been on steroids, and SPAC deals have seen unprecedented surge.
In a statement, Fed Governor Lael Brainard highlighted the rise in some stocks based on meme frenzy. “Valuations across a range of asset classes have continued to rise from levels that were already elevated late last year. Equity indices are setting new highs, equity prices relative to forecasts of earnings are near the top of their historical distribution, and the appetite for risk has increased broadly, as the "meme stock" episode demonstrated,” Ms Brainard said.
In a classic ‘meme stock’ frenzy, the shares of Gamestop Corp (NYSE:GME) have seen their value multiply by almost 10x in just four months, as Reddit users pushed the demand for the stock despite weak fundamentals of the company.
Ms Brainard also highlighted the importance of stronger safeguards in the wake of “valuations and risk appetite at elevated levels”.
However, the warning by Fed does not seem to have much impact on the equity markets. The futures Dow Jones Industrial Average was down marginal 4 basis points (bps) in aftermarket. The Asia Pacific Markets also opened in green: ASX200 was up 29 bps and Nikkei225 was up 8 bps.
Meanwhile, the Fed has also warned about the asset quality deterioration, in case of debt, if pandemic situation worsens.
