What Was The Fed Thinking?

| July 21, 2014 | 0 Comments

Ever since interest rates hit zero, we’ve come to expect consistent, mostly boring talk out of the Fed.  The central bank has pledged to keep rates low for the foreseeable future.  And, quantitative easing is slowly winding down.

There’s not a whole Yellen and the Fed could say or do at this point that hasn’t already been discussed ad nauseum… or is there?

Just when we expected another boring testimony by Janet Yellen to the Senate Banking Committee, the Fed Chair threw an unexpected wrench into the works.  In a virtually unprecedented move, Yellen called out certain sectors as being overvalued.

More specifically, she mentioned small caps, social media stocks, and biotechs as having “stretched” valuations.  

Back in 2000, the Fed did comment on tech stocks being overheated.  But, that was a far more general comment than this.  It’s really the first time the Fed has targeted specific sectors.

Clearly, Yellen and the Fed believe there is some bubble risk in those industries.  They don’t want to raise rates to combat a few overvalued areas of the market… and these comments are their attempt to address the situation.

Yellen did say the market overall is tracking in line with historical averages.  She obviously doesn’t want to hammer asset prices in general.  But, apparently the central bank isn’t willing to risk even sector-specific bubbles.

So was this the right move by the Fed?

On one hand, it does make some sense.  It was the easiest way for the Fed to tackle a potential sector bubble without hitting the whole market.  And, raising interest rates clearly doesn’t make sense in a case like this.

On the other hand, I tend to agree with Jim Cramer’s comments on CNBC.  That is, the Fed could have just raised margin requirements on stocks in those industries.  I’m not sure why the Fed didn’t go that route – perhaps they felt it was too extreme.

Regardless, the damage is done.  Investors are going to have to be far more careful in making investing or options trading decisions on small caps, biotechs, and social media companies. 

Bottom line, if you’re looking to go long on any of the targeted sectors, make sure the company has strong fundamentals.  Now’s the time to seek out the best-in-class companies.

Yours in Profit,

Gordon Lewis

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Category: Options Trading, Stocks

About the Author ()

Gordon Lewis is the Chief Investment Strategist and editor for the popular daily newsletter – Options Trading Research. He’s also one of the key analysts behind the highly successful Options Trading Wire and Advanced Options Adviser. As a market maker on the floor of the CBOE, Gordon analyzed and traded stocks and options across a broad range of market caps and industries including retail, internet, oil, insurance, and telecom. He often traded thousands of options contracts per month… and it’s fair to say, Gordon’s analyzed and invested in some of the most complex and successful options strategies in the world.

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