Citi currency guru Steven Englander says the stock market and emerging-market currencies are "increasingly running on Fed fumes" in his latest note to clients, quantifying what he says " looks like a Fed love-fest" in global asset markets.
"Both FX and equity investors owe the Fed a lot these days," he writes in the note. "Equities have been going up and EM currencies have been recovering, so risk must be bid."
Values represent how many times over the last 50 days the indicated events have occurred.
The chart at right plots the number of days in the last 50 that the S&P 500 index and EM currencies have risen when Treasury yields have fallen.
The idea is that as the series rises, investors are increasingly buying these risk assets on days when bond markets are supported by hopes that the Fed will refrain from tapering its quantitative easing stimulus programs..
In other words, bad news regarding economic data — the type that supports bonds, because it suggests the Fed will continue buying bonds for longer — is increasingly becoming good news for stocks.
"The characteristics of risk buying are very different than earlier in the recovery," Englander writes. "If we look at the last 50 days, we find that the higher equity prices and lower 10-year Treasury yields on a [day-to-day] basis have occurred 16 times. On 14 of these 16 occasions, EM currencies have appreciated (Figure 1).
"So basically we have the high-beta currencies and equities going up when yields are going down, which looks like a Fed love-fest: investors either are buying risk on economic weakness or expectations that the Fed will be bountiful," says Englander.
Number of days (out of the last 50) when the S&P has been up and bond yields have been down minus the number of days the S&P has been up when bond yields have been up.
The next chart shows that this is an unusual occurrence.
"This [chart] answers the question: when the S&P is happy, what is it happy about?" writes Englander. "We find that this is the first episode when the S&P rallies more on news associated with dovishness/weak activity than on news that would reflect any degree of optimism. The same is true for EM currencies. They seem to be rallying largely on liquidity."
The bottom line, he says: "We are the last one to argue that the Fed is at the limit of its ability to influence asset markets, but how much more ability they have to affect activity may be more in question."
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