📝Stock Market Not The Best Place To Exercise The Fed Put: Natixis

When investors talk about a Fed put, they are referencing stocks. How much do stock prices have to fall before the Fed stops monetary tightening? Back in January 2019 when the Fed stopped the roll-off of its balance sheet, the S&P 500 had fallen 19.8% from September to December. Today; the stock market is down roughly 16% from its January 2022 all-time high but many investors believe the Fed put remains way out of the money assuming there still is one. Why? Because the Fed has stated many times that financial conditions need to tighten much more (read lower stock prices) in order to dampen domestic demand and hence inflation. Not so fast. The Fed put exits because if stock prices fall far enough, the hit to household wealth will be so large that policymakers will fear meaningful negative consequences for the broader economy. The Fed will relent. However, the stock market may not be the best place to look for the exercise price of the Fed put. Rather, it could be the credit markets, in particular high yield or the junkiest of junk within that space. Look at the nearby chart. The yield on CCC debt relative to treasuries is widening substantially, out to nearly 1000 bps as of yesterday. We are now at the highest level since November 2020 and similar to where we were in July 2019 and January 2008 when policy was easing to combat a slowdown in economic growth. In fact, the economy was in recession in 2008. What will it take this time? Our best guess is that if spreads widen out to 1500 bps; we will see a Fed relent. - Natixis Chief Economist