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Steady Market Has Fed Worried About Investor Complacency

Jun 4, 2014

Federal Reserve officials have expressed concern that investors may start taking big risks due to a relatively long period of low volatility in the stock market.

Business Insider executive editor Joe Weisenthal discusses the Fed’s worries and how they might affect their decisions on interest rates, with Here & Now’s Jeremy Hobson.

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JEREMY HOBSON, HOST:

The stock market closed at a new record high earlier this week. Both the Dow and the S&P 500 hit new peaks. And volatility is at a multi-year low, meaning the market isn't bouncing up and down all that much.

You'd think that would mean Federal Reserve officials would be happy. But it turns out members of the Fed are growing increasingly worried that low market volatility are causing investors to be too complacent and too risky. Joe Weisenthal is executive editor at Business Insider. He's with us from New York, as he is each week. Hi, Joe.

JOE WEISENTHAL: How are you doing?

HOBSON: Doing well. So tell us about the low volatility right now. How low is it, and what exactly does that mean for people who are not big market insiders?

WEISENTHAL: Basically, volatility is what it sounds like. It's a measure, and there are multiple ways to measure. But it's basically a way of measuring how much asset prices move up and down in any given period of time. When there are big drops or big declines in short periods of times, that means volatility is spiking. When they're very - when the market is very orderly, volatility is low, which is exactly what we're seeing now.

The market is just incredibly calm these days. There's - you know, some days the market's up. Some days it's down. It's up more often than it's down, which is why stocks are at all-time highs.

HOBSON: Yeah.

WEISENTHAL: But it's just - you're just not seeing these 300-point drops in the Dow very often. There's a little - you know, we've had a few scares here and there with some of the tech stocks a couple months ago. But everything is just remarkably calm. And this is across all markets. It's not just U.S. stocks. It's currency volatility is incredibly low.

HOBSON: So why is that such a bad thing, though, Joe? Isn't that something the Fed would want?

WEISENTHAL: I - there is - so, yes. The Fed has achieved what it wants to some extent. The market is just not as afraid of financial collapse the way it used to be. Central banks around the world have made a lot of progress. There's no doubt about that.

But what the Fed doesn't want to see is investors taking this attitude that there is just no risk anymore in the marker, that they can go long U.S. stocks without risk of a big drop. They don't want - there's a certain moral hazard element. They don't want people thinking that if the market is going to drop, that the Fed will step in and provide more gas just to boost asset prices.

And so they would like to see some more caution, some more difference of opinion in terms of what direction asset prices are going to go. But it's difficult because they don't want to do anything that would slow down the recovery, which is still really weak. And that's the crux of the matter.

If the economy were booming, then the Fed could take - make stronger indications that it might ease off the gas pedal. But the economy still doesn't appear to be booming. So it's hard to disrupt this low volatility without putting the recovery at risk.

HOBSON: On the other hand, we see that one of the things that Fed officials are worried about is that people are snatching up these junk bonds at rates that are even higher than they were before the financial crisis.

WEISENTHAL: Yeah, that's totally the case. And look, part of the point of monetary policy is to boost - boost lending, which inevitably boosts risky lending. And so the fact that interest rates and prices on these bonds are going to some extreme levels is, to some extent, an indicator that things are working. But yeah, again, it is worrisome that we're seeing a return of a lot of the same old practices that we saw prior to the collapse in terms of lending standards and just the belief that nobody is going to default, so forth.

HOBSON: And, Joe, just in a word here, do think that the Fed is going to be raising interest rates in the next few months or no?

WEISENTHAL: No, not in the next few months. But it would not be a surprise if by the end or very early next year, the Fed gives a clear indication of when the hikes are coming.

HOBSON: Joe Weisenthal, executive editor at Business Insider. Thanks so much as always.

WEISENTHAL: Thank you. Transcript provided by NPR, Copyright NPR.