Tuesday served as quite a jolt to investors. The S&P 500 lost -1.5%, its biggest drop since last December. It seems that everyone had gotten quite used to the gentle drift higher that characterized the stock market so far this year, since there hadn’t been so much as a 1% correction in the S&P since the end of last year.
The sudden decline makes one wonder whether market participants are beginning to believe that the likelihood of additional stimulus on the part of central banks has diminished. In his semiannual testimony to Congress last week, Federal Reserve Chairman Ben Bernanke did not drop any hints that the Fed is poised to provide any additional ‘accommodation’ in the near future. In fact, at the end of the week, a Wall Street Journal reporter widely believed to have excellent contacts at the Fed published a story stating that the Fed is unlikely to act at its meeting this Tuesday. Many observers believe this was a deliberate leak by the Fed to prepare the market for that outcome. The logic of the Fed holding their fire actually makes sense considering that the economy has seen some recent improvement, with stocks surpassing their 2011 highs last week, and gas prices soaring again.
In addition, the European Central Bank may have completed their major stimulus efforts for the time being. Following their second LTRO (Long-Term Refinancing Operation) on February 28, which pumped another $700 billion of short-term liquidity into the European banking system, Mario Draghi, the ECB president, warned that they’re unlikely to hold another operation anytime soon. The ECB wants to ensure that European governments continue their difficult efforts to tackle their debt crisis, and not become complacent as a result of the short-term relief that has been provided.
Tuesday was very much a ‘risk off’ day, with risk assets of all types getting hammered – stocks, commodities, etc. It’s always dangerous to attempt to draw conclusions from one day, but the across the board de-risking might have signaled that investors sense a pretty meaningful change from the two biggest providers of financial ‘juice’ may be occurring.
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