Bubble blowing to continue so long as US Federal isn’t raising rates

NEW YORK: Janet Yellen will have to do more than talk about potential asset market bubbles if she is to pop any. Days after Federal Reserve Chair Yellen’s May 6 observation that stock valuations are “quite high,” Citigroup strategists led by Robert Buckland looked around the world at what central banks have done in the past to rein in financial market excesses.

Their answer is that it usually takes at least three interest rate increases and as many as five to spark a slide in equities.

With such a development unlikely for another year in their opinion, they’re betting stocks will keep climbing despite any concerns Yellen may voice. “The lesson seems to be that bubbles can continue inflating through the first rate increases,” Buckland and colleagues said in a report. “Rate hikes eventually burst bubbles, but it usually takes at least three increases to stop the juggernaut.”

Looking at Japan first, the strategists noted that in the late 1980s, the Bank of Japan kept interest rates low as inflation was subdued. Yet as prices picked up it began tightening in March 1989. Starting from 2.5%, rates reached 4.25% before the stock market peaked in December 1989.

It also took time to burst the US Internet bubble of the last decade. The Fed first lifted its benchmark in May 1999 but it took five increases to 6% before the Nasdaq Composite Index topped out.