P&L: Does The Fed Still Matter to Equity Traders?

in about a week and a half. I want to learn more about whether the FED even matters if you're an equity trader anymore, given that inflation expectations have gone up so much that it almost makes the benchmark great less relevant, possibly irrelevant. I want to bring in Matt Malley, equity strategist at Miller t Back, to give an answer to that. Matt, what do you think we always so the one thing that we do have to worry about?

What that is? And I certainly understand why, uh why people are starting to feel that way, and and and I think we would all agree that would be a good thing because they've been so dependent on the set for so long. But the one thing I do worry about is we move into next year. Uh. Anything can happen in the next six weeks or so, but UH is that as rates move up, we still have huge

amounts of leverage in the marketplace. Now the banking system is certainly the U S banking system anyway, is much less leverage than it was during the during the crisis. But the New York Stock Exchange margin dead is above it's two sounds of seven seven levels. So there's still a lot of leverage out there. And as interest rates move higher, the cost of carrying that leverage, UH will go up, and which means some people will have to

unwind some of that leverage. So for one second, I really want to dig into where the leverage could be because a lot of people have talked, as you mentioned, Matt, the banks themselves have de levered. But this is an important point. I mean, where is the leverage? Where are we going to see the pain? Well, you see, like I said that the New York stock has changed, and just in the stock market than the amount of margin debt UH with people are just levering up on the

markets is is at all time higher. It's actually I think it's just slightly below that, but it's uh well above where it wasn't two thousand and seven. We've also seen um, you know, with the you know, so much debt, with some of these companies putting on things, so much debt has been put into non uh things that didn't really help service that debt. In other words, they've gone back to buying back stock and such and rather than

investing in their in their own businesses. So uh, in a in a weird way, uh, the companies that are more leverage than they used to be. And of course we have a private private debt as a percentage of GDP up at historic Hive. So there's a lot of leverage out there in the marketplace, even though it's not

necessarily in the banking system. And therefore I'm not worried about the system collapsing, but they still could have a cause the headwinds for for for the for the stock markets, because leverage help the addition of leverage help the stock market move higher in the last six seven years. I'm not certainly not saying that's the only reason one up, but it's certainly helped it. So we'll cause the headwind

if if that leverage needs to be unwound. So what would have to happen for the leverage to be unwound? I mean, is this people borrowing short term in order to finance longer term purchases are riskier purchases, So if the short term rate to borrow goes up substantially, people will need to de lever. Is that the idea here, so that that as benchmark rates climb higher, you will see sort of some of this leverage squeezed out, Yes, exactly.

And then I mean, although I will say this, it's funny, you know the people are talking about among one of the things I've been saying for a while is that the FED realizes this, and that's one of the reasons why they said, even before they did their first rate hike that they would go very slow. And part of that has to do with the what with the speed of the economy, but it also has to do with this issue. They don't want to suddenly cause more problems

than they're solving. So I don't you know, everybody's starting to say, now with Trump coming in the office, suddenly they're gonna have to raise rates a lot faster than they than they would otherwise have UH, that's probably true, but I don't think it will be quite as fast as people as some of the most various people are

calling for. UH. And so again it's causing a headwind, not a major a major problem, but it's definitely something that will have an impact on stock prices away from the fundamentals, and with with the settle reserve having been so important to the markets in the last few years, UH, some of these non fundamental factors have been important and they will be for I'm sorry for to say for some time to come. Which areas of the stock market do you think are most vulnerable to a dramatic pullback

as leverage gets squeezed out? Well, and it's really gonna be across the board on a very near term basis, though is oddly enough, is that I worry about the financial stocks only, and this is between. This is really on a short term basis, been between maybe now on

the end of the year. They are certainly poised to go higher because UH, interest rates are poisoned to go higher and which should you know, invert the sorry, UH, keep the EO courage steeper, continue to steep, and then that should be helpful However, they've gone so far, so fast, and the problem is we have everybody's on one side of the boat. You look at the sentiment indicators for the mom market, there's over extend as I've ever seen them.

I've been doing this for over thirty years. Uh And, and the positioning isn't quite as bad as it has been, but it's still quite extreme, or getting more extreme, I should say. And the same with the bank stocks. You look at some of these charts, they're wildly overbought. Again. I guess my point is these things will may look like they're collapsing for a very short period of time. But if you like these groups and uh and in these sectors you want, you want to think hold off

and buy them. I think you get a better chance to buy them at lower levels down the road as we moved towards the end of the year, rather than chasing them up at these levels. Matt malle thank you so much for joining us. Matt Malley, equity strategist at Miller T Back. Thanks for listening to the Bloomberg P and L podcast. You can subscribe and listen to interviews at iTunes, SoundCloud, or whatever podcast platform you prefer. I'm pim Fox. I'm out there on Twitter at pim Fox.

I'm out there on Twitter at Lisa Abramo. It's one before the podcast. You can always catch us worldwide on Bloomberg Radio