Historically, the U.S. stock market has seen significant volatility and even crashes following periods of interest rate hikes and subsequent quantitative easing (QE).
This pattern can be observed during the Dot-com Bubble and the 2008 Financial Crisis. In both cases, the Federal Reserve raised rates aggressively, which slowed down economic growth. Once the economy began to falter, the Fed cut rates and initiated QE, injecting liquidity into the system. However, rather than stabilizing the market, these actions often contributed to instability, as investors began to expect that the Fed would support the market, leading to inflated asset prices that eventually corrected downward
A Familiar Pattern: Could Today’s Rate Cuts and QE Signal Another Correction?
Currently, we're witnessing a similar scenario: the Fed has raised rates substantially since 2022 to combat inflation and only recently started indicating a shift towards easing. With the market already on edge due to high inflation and slowing economic growth, there's concern that QE will again inflate asset prices temporarily, leading to a correction once market fundamentals can no longer support these prices. In essence, while QE injects liquidity, it often leads to short-term gains but can mask deeper issues within the economy, making the market vulnerable to abrupt crashes when underlying weaknesses resurface. The Hidden Risk: Unrealized Losses in Banks and Their Role in Potential Market Volatility Could unrealized bank losses be one of the underlying issues that accelerate the possible coming crash? U.S. banks are currently holding an estimated $517 billion in unrealized losses on their balance sheets, largely due to higher interest rates impacting the value of mortgage-backed and other long-term securities. This amount of unrealized losses far exceeds levels seen during the 2008 financial crisis, with some estimates indicating these losses are nearly seven times greater than those reported in 2008. This substantial figure has sparked concern, as these unrealized losses could impact banks' liquidity and risk management if they were forced to sell assets at a loss under economic pressure.
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Disclaimer: This is not financial advice.
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