Fed Chair Switch Could Rile Markets
With his first four-year term as Federal Reserve Chairman set to expire in February 2022, Jerome Powell has recently been the talk of the town. Will President Joe Biden reappoint Powell as Fed Chairman for another term? A recent Reuter’s poll of 40 economists revealed that 90% of respondents expect the President to reinstate Powell for another term.
Powell certainly had his work cut out for him since he took the reins of the Federal Reserve back in 2018 when President Donald Trump selected him to replace Janet Yellen. He’s recently faced intense scrutiny and questioning from Congress, Wall Street, and Main Street over the Fed’s responses to the global COVID-19 pandemic, the loss of nearly six million jobs due to the pandemic, and now rising inflation.
As a forward-looking mechanism, the stock market puts a heavy weight on the Fed’s policies as they have a tremendous impact on the economy. Recent Fed policy has gone one step further, intervening to influence the prices of securities directly.
At the start of the COVID-19 pandemic, fear drove many investors to the hills. The result was a sharp decline in stock and bond markets. But swift action by our central bank and Fed Chairman Powell—a key interest rate cut and a massive bond-buying program—boosted investors’ mood and outlook for the markets. The bear market was stopped in its tracks, and prices have rebounded impressively since.
Both sides of the aisle have praised and criticized Powell for his actions, fueling the debate over whether he should be reappointed to another term or not.
Before offering our two cents to the debate, it’s essential to consider how the stock market has historically responded to the appointment of a new Fed Chairman and what President Biden should consider as he weighs the pros and cons of his decision.
Let’s take a closer look, and we’ll start with one of the most well-known: Alan Greenspan.
Greenspan was appointed Fed Chairman by President Ronald Reagan in August 1987, and he served as Chair for more than 18 years. Greenspan is best known for maintaining moderate inflation and steady economic growth during his tenure. But did you know that the stock market crashed almost immediately after Greenspan took the helm of the Federal Reserve?
Greenspan became the new Fed Chairman on August 11, 1987, and the stock market subsequently peaked on August 17, 1987. From that mid-August high, the S&P 500 plunged 33% in a little over three months. The stock market crash of 1987 is etched in many investors’ minds, with October 19, 1987, or “Black Monday,” still one of the darkest days on Wall Street.
After the stock market bottomed in late November 1987, the S&P 500 traded slightly higher to sideways for more than a year. While the S&P 500 climbed 16% from the November 1987 lows, it was still down more than 22% from the mid-August 1987 peak a year later. The S&P 500 didn’t return to its August 1987 highs until mid-July 1989.
After Greenspan retired as Fed Chairman, President George W. Bush appointed Ben Bernanke in February 2006. Bernanke is known for handling the central bank’s response to the 2008 financial crisis and the subsequent Great Recession. He introduced near-zero interest rates and a massive quantitative easing program to combat the stagnant economy.
The stock market had a relatively muted response to Bernanke’s appointment. The S&P 500 dipped about 2% in Bernanke’s first week in office, but the S&P 500 climbed nearly 15% higher over the next year. At the onset of the financial crisis, the stock market didn’t show any real signs of weakness until 2008.
President Barack Obama then appointed Janet Yellen as the new Fed Chair in February 2014. When she took the reigns of the central bank, Yellen was committed to boosting employment and the U.S. economy, as both were still lagging in the wake of the 2008 financial crisis. The unemployment rate stood at more than 7% when Yellen was named Fed Chair, so many on Wall Street embraced her dovish reputation.
During Yellen’s first year leading the Fed, the S&P 500 rallied about 16%. Now, 2016 was a bumpy year for the stock market, as key interest rates were increased in December 2015. Wall Street spent much of 2016 wondering if the Fed would raise rates again considering the strength of the U.S. economy, and the second rate hike came in December 2016. Still, the S&P 500 soared an impressive 62% during Yellen’s four-year tenure as the Fed Chair.
Despite the U.S. economy’s strength and the unemployment rate falling to about 4% by the end of 2017, President Donald Trump surprised many economists when he decided to replace Yellen with Jerome Powell in 2018. The decision came as a surprise because Trump had been critical of Powell before the nomination. There were concerns that Powell was too hawkish and would raise interest rates too much.
Wall Street seemed to share these concerns, and the S&P 500 dropped 8.5% in Powell’s first week as Fed Chairman. After that, the market didn’t gain much ground as it seesawed for the rest of the year, and ultimately, the S&P 500 fell more than 4% by the end of his first year.
Now, no one can blame a new Fed Chair as the sole culprit to a market decline, but one can certainly expect the markets will have a more difficult time if the new Chairman believes interest rates need to increase. This is especially true today, with interest rates at almost all-time lows.
We do not believe the current administration would, under any circumstances, nominate a new Chair thought to be more hawkish on interest rates. Instead, they would seek a Chair more interested in supporting current employment and economic growth over longer-term issues like inflation. That has been their party’s stance for decades.
We think Powell has performed well at the helm of the Federal Reserve, acting quickly at the onset of the COVID-19 pandemic to bolster the markets and support the U.S. economy. His efforts haven’t been perfect, but with inflation rising and the economic recovery still on shaky ground amidst the ongoing pandemic, it might be in the Biden administration’s best interest to nominate Powell for a second term rather than rock the stock market’s boat.
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Reference Articles
https://en.wikipedia.org/wiki/Chair_of_the_Federal_Reserve
*Used YahooFinance Historical Data and Charts for S&P 500 closing prices