SEVERE WX : Frost Advisory View Alerts
STREAMING NOW: Watch Now

The $4.5 trillion experiment rattling markets

A series of mini-storms have swept financial markets around the world this year.The Dow experienced ...

Posted: Aug 1, 2018 2:05 AM
Updated: Aug 1, 2018 2:05 AM

A series of mini-storms have swept financial markets around the world this year.

The Dow experienced two 1,000-point nosedives. Italy's bond market briefly blew up. China plunged into a bear market. The Argentine peso collapsed. So did the Turkish lira.

Even beloved tech stocks have stopped going straight up. Facebook lost $119 billion in market value on July 26 -- the biggest one-day wipeout in history.

After an unusually calm 2017, volatility is making a comeback. The turbulence appears to be a side effect of the Federal Reserve starting last fall to shrink its $4.5 trillion balance sheet.

In a bid to revive the economy and stock market, the Fed took the unusual step in 2008 of aggressively buying government bonds and mortgage securities in an experimental program known as quantitative easing. The central bank bought so much during QE1, QE2 and QE3 that its balance sheet swelled fivefold over a decade.

The emergency actions -- extremely low rates and a massive balance sheet -- pumped global markets with liquidity. Risky assets like stocks surged.

Related: The tech bloodbath is here

'No coincidence' accidents are rising

The Fed, emboldened by the strong economy, has begun to take the training wheels off. It's tightened financial policy by raising rock-bottom rates seven times since late 2015. Last fall, the Fed started to trim its balance sheet by $10 billion a month. The pace of selling has since accelerated and is on track to eventually reach $50 billion a month.

"Quantitative easing was a big experiment, and so unwinding it is an experiment in and of itself," Kristina Hooper, Invesco's chief global market strategist, wrote to clients on Monday.

The latest moves by the Fed, known as quantitative tightening, have been accompanied by increased market volatility.

"It's no coincidence that accidents begin to pick-up the deeper you get into tightening," said Peter Boockvar, chief investment officer at Bleakley Advisory Group. "QE inflated markets to very high valuations. It's wishful thinking to believe QT isn't going to have an impact."

By shrinking its balance sheet, the Fed is draining the liquidity that sent stocks booming.

While it's prudent policy given the strength of the economy, it can also have unintended consequences, such as the bursting of asset bubbles.

"I expect more market volatility -- both at home and abroad -- as the experiment of balance sheet normalization continues," Hooper said.

Related: Why gold is plunging despite market volatility

The Facebook shock

It's not just the Fed that has begun to unwind its emergency actions. In June, the Bank of England said it could begin shrinking its balance sheet sooner than previously thought. Even the European Central Bank plans to halt asset purchases by the end of 2018.

Of course, the Fed's balance sheet is not the immediate cause of Facebook's blow-up. Investors rushed to dump Facebook shares after the social media giant warned of rising costs and slowing revenue growth. The heavy selling caused the Nasdaq to drop by more than 1% for three straight days. That hadn't happened since August 2015.

The Facebook sell-off is a sign of the times.

"Cult leadership becomes volatile & vulnerable as 'liquidity' [is] drained," Bank of America chief investment strategist Michael Hartnett wrote to clients on Friday. He called the Facebook "shock" a "classic 'late-cycle' event."

Related: Turkey could be the next emerging market crisis

Trouble in emerging markets

Emerging markets have faced the brunt of the storm. The Fed's rate hikes have strengthened the dollar, making it harder for countries to repay money they borrowed in US dollars. Investors are also yanking money out of emerging markets.

Argentina's currency crashed to a record low earlier this year, forcing it to reach a $50 billion bailout with the IMF. The Turkish lira has plunged 30% against the dollar, raising fears of another emerging market crisis.

Last month, Irjit Patel, the governor of the Reserve Bank of India, pleaded with the Fed to slow plans to shrink its balance sheet. If the Fed doesn't shift course, "a crisis in the rest of the dollar bond markets is inevitable," he wrote in an op-ed in the Financial Times.

The good news is that many emerging market countries are in far better shape than a decade ago. They're built up reserves to deal with market turbulence.

"We don't see vulnerabilities on a broad basis in emerging markets," said Barbara Reinhard, head of asset allocation at Voya Investment Management.

The return of market storms doesn't mean the Fed is on the wrong track. It only seems wise to wean the economy and markets off crisis-era policies.

"The Fed should be taking away emergency stimulus. If it doesn't, it'll blow an asset bubble like what we saw in the housing bust," said Reinhard.

And so far, the Fed has pulled it off without disrupting the economy. It's a sensible strategy, even if it brings about a bumpier ride for investors.

Huntsville/Redstone
Partly Cloudy
53° wxIcon
Hi: 52° Lo: 37°
Feels Like: 53°
Muscle Shoals
Clear
56° wxIcon
Hi: 56° Lo: 37°
Feels Like: 56°
Huntsville/Madison
Partly Cloudy
52° wxIcon
Hi: 51° Lo: 37°
Feels Like: 52°
Decatur
Partly Cloudy
54° wxIcon
Hi: 55° Lo: 39°
Feels Like: 54°
Fort Payne
Partly Cloudy
49° wxIcon
Hi: 52° Lo: 38°
Feels Like: 44°
WAAY Radar
WAAY WAAY-TV Cam
WAAY Temperatures

Alabama Coronavirus Cases

Cases: 523955

Reported Deaths: 10798
CountyCasesDeaths
Jefferson755821496
Mobile40234800
Madison34153500
Tuscaloosa25423444
Montgomery24084573
Shelby23241242
Baldwin20764302
Lee15642166
Calhoun14365311
Morgan14171274
Etowah13707348
Marshall12015220
Houston10418279
Elmore10023202
Limestone9866148
Cullman9514191
St. Clair9498236
Lauderdale9286233
DeKalb8767183
Talladega8123173
Walker7149277
Autauga6773106
Jackson6769110
Blount6548133
Colbert6237132
Coffee5434113
Dale4782111
Russell431339
Franklin421482
Chilton4132110
Covington4083115
Tallapoosa3928148
Escambia390375
Dallas3529150
Chambers3523122
Clarke347460
Marion3080100
Pike306776
Lawrence296995
Winston273272
Bibb256961
Marengo248561
Geneva246575
Pickens233359
Barbour227555
Hale218775
Butler213868
Fayette210360
Henry188644
Cherokee182745
Randolph178041
Monroe173440
Washington165938
Macon156949
Clay150556
Crenshaw149557
Cleburne147041
Lamar140034
Lowndes137653
Wilcox124927
Bullock122140
Conecuh109828
Perry107726
Sumter103332
Coosa100228
Greene91434
Choctaw59024
Out of AL00
Unassigned00

Tennessee Coronavirus Cases

Cases: 836563

Reported Deaths: 12096
CountyCasesDeaths
Shelby931861591
Davidson88121924
Knox49873624
Hamilton43438487
Rutherford42361422
Williamson27569216
Sumner23515342
Montgomery19661224
Wilson18496229
Out of TN1793495
Unassigned16772133
Sullivan16211287
Blount15194194
Bradley14633148
Washington14197243
Maury13242169
Sevier13182175
Putnam11185173
Madison10810241
Robertson9615129
Anderson8633171
Hamblen8509171
Greene7739152
Tipton7227103
Coffee6832121
Dickson6735109
Cumberland6577128
Carter6472156
Bedford6430129
Gibson6406144
McMinn637097
Roane6193102
Jefferson6082123
Loudon601969
Lawrence580986
Hawkins5790106
Monroe571495
Warren551581
Dyer5365104
Franklin508988
Fayette492577
Obion450296
Cheatham445254
Cocke444198
Rhea431475
Lincoln430763
Marshall411858
Campbell409962
Weakley403563
Giles395799
Henderson373075
Macon358477
Carroll357682
White355468
Hardin349866
Hardeman346464
Lauderdale314344
Henry312575
Marion310546
Claiborne306173
Scott305345
Overton297461
Wayne294334
Hickman280746
McNairy276854
DeKalb275653
Smith274938
Haywood268361
Grainger259449
Trousdale249022
Morgan246039
Fentress238446
Johnson231738
Bledsoe209911
Chester209451
Crockett201248
Polk200024
Unicoi194849
Cannon188931
Union186234
Grundy178233
Humphreys174222
Lake169526
Sequatchie166928
Benton163140
Decatur157438
Lewis156226
Meigs134724
Stewart130828
Jackson130035
Clay109331
Houston108533
Perry105728
Moore100117
Van Buren83621
Pickett75724
Hancock55112

Community Events