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What Happens When the Fed Hits the Breaks? This Chart From 2009 Holds Some Clues


We compared the SPX from March of 2009 -- the bottom of the Great Recession -- with an overlay of the Federal Reserve's Balance Sheet.

The magnificent and the ridiculous are so close that they touch.
– Le Bovier De Fontenelle

It is only when you're not looking that the monsters come out from under the bed.

Risk, for all intents and purposes, is opaque at best. It rarely provides much of a warning shot before its debut -- at least one that investors are willing to hear. It is fast and it is full of peril. This is why the old Wall Street adage, "bulls take the stairs while bears use the elevator," continues to ring true. The conundrum lies in complacency -- or is it just greed?

Complacency is the primary enemy of the investor and yet can be so comforting. When all is going well, the feeling of belonging (being a part of something) increases exponentially. This is especially true for the financial markets. What makes it worse is greed. Some may call it fear -- that is, the fear of missing out. All too often, like it or not, our society encourages us to keep up with the Joneses. This skews logic and provides a false sense of security.

The market this year (the S&P 500 Index (INDEXSP:.INX)) has returned 14.34% YTD, 3.92% QTD, and 2.08% last month -- all of which has transpired without so much as a 10-day drawdown or correction. Not more than a week ago the SPX was trading 12% above its 200-day moving average. All the while the Federal Reserve has begun to announce the "potential" of curtailing their post-Christmas spending spree. Yet the mad dash to jump on the accelerating train is not abating.

Click to enlarge

Today our firm decided to help with the "warning shot" and distribute a graph we find very compelling. The chart above is the SPX from March of 2009 -- the bottom of the Great Recession -- with an overlay of the Federal Reserve's Balance Sheet (Total Assets – Green Line). The correlation is undeniable as it stands just above the 88th percentile.

What is also noticeable is the simple fact that once the Fed decides to put on the breaks, the market goes through a substantial correction (red arrows). This is only an observation and is not intended to drive fear into investors, but rather deliver a breath of rationale into a potentially irrational expansion.

For those looking for another sign, you could always turn to the USA Today "Bull Run Gets Solid Footing" front-page headline last week; periodicals have a blatant tendency to get it wrong at the extremes.

I hope this helps and finds you well.

Editor's Note: Read more at Tesseract Asset Management.

Twitter: @TAM_News
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No positions in stocks mentioned.

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