Bonds worry SF Fed President, not stock valuations…or Valley excesses


When Fed Chair Janet Yellen said “equity-market valuations at this point generally are quite high” last week, a lot of veteran market participants recalled Alan Greenspan’s infamous “irrational exuberance” comment in December 1996. If the pattern repeats, stocks will struggle a bit in the immediate aftermath of such Fed speak before racing higher to truly outrageous valuation levels.

Among others, San Francisco Fed President John Williams is hoping a repeat performance isn’t in the offing, as he recalls the “bad affects” of the eventual bursting of the 1990s stock bubble.

Suggesting higher asset prices are “normal” in a low interest rate environment, Williams says “I don’t think stock valuations are a huge risk [to the economy] but of course if it would continue [like in the late 1990s] it’s something we’d pay close attention to.”

For the moment, at least, the SF Fed President is more concerned about “what would happen if long-term yields went up rapidly…what would it mean for the economy and thinking through risk scenarios for that.”

Chair Yellen expressed similar concerns in her speech last week, saying “there are potential dangers” in bonds and warning yields “could see a sharp jump” if (and when) the Fed starts to raise rates.

New York Fed President William Dudley offered similarly themed comments in a speech Tuesday in Germany, saying he expects any rate hike to have “implications for global capital flows, foreign-exchange valuation, and financial-asset prices even if it is mostly anticipated when it occurs.”

As if on cue, global stocks sold off overnight and U.S. markets headed for a rough open Tuesday as bond yields rose in Japan, Germany and the U.S., where yields on the benchmark 10-year note hit a 5-month high.

Regarding the timing of any Fed rate hikes, Williams personally believes the Fed’s first move will be this year but stressed the central bank would be “data dependent” and personally believes some uncertainty about the path of monetary policy is healthy for financial markets.

As for the chatter about another bubble forming in Silicon Valley, Williams sounded like a venture capitalist: “With tech companies, it’s just really hard to know what the proper valuation is,” he says. “They’re often transformative, changing entire industry. What is the profit stream that
going to come out of that company? It’s difficult to [analyze].”

Williams also drew a distinction between today’s venture-backed favorites and the “dot.coms” of the late 1990s, noting the former “actually do have positive revenues” while the latter often planned to “make up losses in volume” (and eyeballs). Furthermore, today’s start-up leaders like Uber, Snapchat and Yik-Yak aren’t publicly traded, which should limit the macro economic impact if and when the bubble pops.

“The fact is tech companies are generally equity financed, from venture capitalists or other investors. There’s not a lot of leverage, not a lot of risk to financial system,” he says. “I’m not saying there’s no risk to the economy…but it doesn’t have risks to the financial system or threaten the entire economy the way, unfortunately, the housing bubble did.”





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