Aside from insider selling, bad technicals, and widespread scandals, one of the main reasons stocks fall in value is because they’re trying to price in bad news. While the market has cratered considerably this year due to investors coming to terms with fed chairman Powel’s hyper aggressive rate hike policy that’s designed to crush inflation, people have ignored some of the side effects of this policy decision.
To be clear, I do support the federal reserves actions, their primary objective is price stability, and with inflation soaring to mind numbing levels they need to fight it no matter the cost. A depression is better than banana republic hyperinflation and mass starvation. Unfortunately the cost is a lot higher than most people think.
At first glace rate hikes make it harder to borrow money, higher rates mean higher borrowing costs. This brings down rampant speculation and other misuses of capital because it’s harder for people to lever up with debt. Less debt equals less money flowing through the economy, therefore less inflation of that money. If this just led to a decline in value of nfts, highly unprofitable growth stocks, and other silly investments I think your average citizen would be okay with it because they wouldn’t have much exposure to these assets. However this isn’t even a fraction of the damage being done.
For years companies have gotten used to ultra low borrowing costs so they’ve been able to hire new employees and expand easily. But with those borrowing costs rising companies will find it harder to continue hiring and growing. Growth will turn into contraction and hiring will turn into layoffs.
Obviously unprofitable companies will be hurt the most, but even profitable companies have gotten to used to low rates. In reaction to this new environment the profitable tech giant Meta just announced massive layoffs and more are sure to follow. The ripple effect will spread throughout the economy, hitting employment, housing, corporate profits, and numerous other sectors. This is exactly why I believe stocks are at risk for a further fall. There’s this delusion in the market that we can have a ‘soft landing’ where we only get a small recession and corporate profits aren’t hit much. This would be a valid theory if the fed didn’t raise rates much but rates haven’t been jacked up this high in over 10 years and the pace of these rates hike is also unprecedented.
In order to crush inflation we will have to crush the economy to bring down demand. While rate hikes have been priced in by the market, the full cost of those rate hikes haven’t been and that’s why this bear market hasn’t been as bad as the dot com bust or many others. Once earnings start to crumble and reality sinks in then investors will have to price in a monster recession and the market will have to fall further.
On the bright side though, this could be a great buying opportunity if you’re able to buy stocks at the bottom of the next leg down. No bear market or rate hike cycle lasts forever. Act accordingly.
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