The Fed Does Not Manage Money

Posted in: Economics, General, Stock Market, Thought of the Week

Stocks fell sharply last week after Federal Reserve Chair Janet Yellen and her fellow policymakers raised concerns about “substantially stretched valuations” in some sectors. She stated the following:

“Nevertheless, valuation metrics in some sectors do appear substantially stretched – particularly those for smaller firms in the social media and biotechnology industries, despite a notable downturn in equity prices for such firms early in the year.”

After she made this statement, several small cap biotech stocks lost over 20% of their value within minutes as traders’ fear and panic overpowered logic and reasoning. Our Investment Committee is highly skeptical of Fed commentary on any subject other than monetary policy or our economy. Given the Fed’s abysmal track record on equity forecasting, they strongly urge investors to ignore all equity market commentary from them and focus more on the fundamentals of our economy.

Our Investment Committee prefers to hear commentary about biotech stocks from Mark Schoenebaum, the #1 ranked biotech analyst for the past nine years by Institutional Investor.  Mr. Schoenebaum’s counter argument states that although biotech may not be “cheap” on a historic basis at its current P/E level, it’s also not “stretched”, particularly when compared to the spike in valuation seen from 1999-2004. This P/E ratio is precisely what the fed has used to derive their conclusion on small cap biotech and social media stocks.

While it’s certainly likely that there are instances where some biotech companies are overvalued, every sector contains overvalued stocks at almost every point within an economic cycle. The key point to remember here is that the Fed appears to have made no effort whatsoever to analyze the fundamentals of the biotech sector because stocks with strong growth prospects can have high P/E ratios and still be considered undervalued.

Our Investment Committee sees a very long runway of growth over the next decade fueled by:

  • Advancement in Science
  • Smartest people in medicine are pursuing biotech companies
  • Less Government Involvement
  • Low Competitive Threat
  • Mergers & Acquisitions Activity

In summary, our Investment Committee considers Fed commentary on a subject like biotech to be suspect at best. When you are choosing between (1) an organization with no professional money management experience, or (2) the #1 ranked mind in biotech, our Investment Committee takes sides with the expert particularly when paired with their own fundamental analysis. The bottom line is that nothing changed in many of the companies that came under pressure, and this is the perfect example where experienced investors can profit from the fear and panic of others.

Read this week’s Thought of the Week to learn more about the Fed and their commentary on the current situation of the economy.

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As an Investment Advisory Representative working in conjunction with Global Financial Private Capital (GFPC) we are provided weekly thoughts on what is happening in the economy and the market. Written by our investment committee at GFPC we find these thoughts to be informative and interesting.