Fed’s Calming Effect on Stocks Is Starting to Look a Little Like Euphoria

(Bloomberg) -- That relief investors felt in January when the Federal Reserve took its dovish pivot is showing signs of turning into something bigger.

A feeling approaching bliss was on display this week when ahead of Wednesday’s rate decision the S&P 500 staged its biggest rally of the year and more money flowed into equity funds than any time in 12 months. Rising 2.9 percent, the S&P 500 posted its largest gain of any pre-rate decision week since December 2016.

Investors woke up in January when Chairman Jerome Powell walked back hawkish testimony that pushed U.S. stocks to the brink of a bear market. But until now they’ve been reluctant to put their money behind the recovery, keeping purse strings tight with everything from lumpy economic data to the trade war restraining sentiment.

“The Fed has changed the whole game, and the market grabbed and ran with it,” said Marshall Front, chief investment officer at Front Barnett Associates. “Investors aren’t worried about the Fed anymore, there’s this optimism that we will get through the tariff issues and see an improvement in the growth picture.”

Fed’s Calming Effect on Stocks Is Starting to Look a Little Like Euphoria

The best start to a year since 1991 for the S&P 500 has come amid relatively light participation, data by JPMorgan Chase & Co show. Exposure to U.S. equities’ among hedge funds and systematic strategies remains low -- at just the 25th percentile relative to history, the bank’s data show. The firm’s quant guru, Marko Kolanovic, said the skepticism is a recipe for more gains.

“This backdrop -- low positioning, the high likelihood of a trade pact, and dovish monetary policy -- should pave the way for further outperformance of risky assets,” he said in a note to clients.

While a trade resolution is probably still weeks away (the U.S.-China meeting was pushed to at least April), investors will get more clarity on the Fed’s stance on Wednesday. Powell’s Fed is widely expected to keep rates on hold and maintain its dovish stance. Should policymakers schedule an end to balance sheet normalization, it could provide an additional boost. Though in truth, says to Pravit Chintawongvanich, equity derivatives strategist at Wells Fargo Securities LLC, it’s getting “hard for the Fed to surprise dovishly,” he said in a note.

The S&P 500’s five-day gain pushed it to within 4 percent of a record. The Dow Jones Industrial Average rose 1.6 percent for the week. The Nasdaq 100 Index gained 4.2 percent, the most since November.

Fed’s Calming Effect on Stocks Is Starting to Look a Little Like Euphoria

Investors are betting that the rally will last. They put $25.4 billion into the U.S. equity funds in the week ending March 11, data compiled by EPFR Global show. That’s the biggest inflow in a year.

“The Fed is market-friendly, what not to like about that?” said Matt Maley, an equity strategist at Miller Tabak + Co. “With that, much of the concern is gone. It doesn’t mean that it’s going to be a walk in the park. The Fed has obviously played a key role in the markets’ rally and some investors are optimistic that the Fed will give the markets a new reason to go up next week.”

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