Yuri Gripas/Reuters
The Federal Reserve is worried about expensive stocks and homes, sinking office prices, shaky banks, and cash-strapped consumers.
The central bank's researchers flagged that stocks were "priced for continued economic resilience," and asset valuations across multiple markets "appeared high relative to fundamentals," per the minutes from their last meeting, published on Wednesday.
The S&P 500 soared to record highs this year as investors bet that the Fed will conquer inflation and start cutting rates within months, pushing stocks higher and staving off a recession.
House prices have also climbed to historical highs relative to rents and Treasury yields, Fed researchers said. They've risen despite a sharp rise in mortgage rates, as inventory has been suppressed by homeowners balking at selling up and losing cheap rates they'd locked in.
Fed economists said during their latest meeting that the value of multi-family homes, offices, and other commercial real estate could decline further. They pointed to depressed transaction volumes, which "likely indicated that prices had not yet fully reflected the sector's weaker fundamentals."
The commercial real estate sector certainly faces a raft of headwinds. They include plunging asset values due to rate pressures and the shift to remote working; a credit crunch as rattled regional banks pull back from lending to the troubled sector; and developers having to refinance their massive debts at much higher rates.
The Fed's economists also flagged leverage in the financial sector and funding risks as "notable." They warned that some banks still have high levels of uninsured deposits, face steeper funding costs, are sitting on unrealized portfolio losses due to higher interest rates, and have significant CRE exposure.
New York Community Bancorp's stock price plunged 60% in five days a few weeks ago, after the regional lender set aside more than $500 million to cover bad loans, and cut its dividend. The news stoked fear of a repeat of last spring when Silicon Valley Bank and two other lenders faced bank runs and collapsed.
Meanwhile, Fed officials predicted consumption would grow more slowly this year as wage gains falter and pandemic savings dry up.
They warned of mounting pressure on low and middle-income households, based on their increasing reliance on credit cards and "buy now, pay later" services, plus more and more late payments on some types of consumer loans.
Households are feeling the squeeze from higher living costs due to inflation, and steeper monthly payments on their credit cards, car loans, and mortgages due to rate hikes. Consumers have tapped their pandemic savings, stopped saving as much, and taken on more debt to make ends meet.
It's worth emphasizing the Fed no longer anticipates a recession, and has dropped the dreaded r-word from its meeting notes since last fall. But its experts are clearly concerned about lofty stocks and home values, further commercial real estate fallout, vulnerable banks, and struggling consumers as potential threats to a soft landing.
