Market Optimists Aren't Fully Out of Their Minds

As stocks tumbled the most since 1987 on Monday, the kneejerk reaction among many market participants was that the Federal Reserve’s surprise decision to cut interest rates to near zero and pump $700 billion into the financial system was a failure. That’s certainly one way to look at it, but the thing to know is that the Fed’s actions were less about sparking a rally in equities and other risk assets and more about trying to ensure that the market’s all-important plumbing doesn’t break down. In that regard, mission accomplished — so far.

Perhaps the best result to come out of the Fed’s actions was that overnight funding costs for banks plunged the most since 2008. This critical gauge of stress in the financial system had surged from a low of about 11 basis point in February to 79 basis points Friday, which was the highest since the financial crisis. On Monday, it fell back to about 31 basis points, which isn’t too far from the average of 23 basis points since the global economy began to recover from the Great Recession. The last thing anybody wants is for banks to be concerned about doing business with each other, which the surge in funding costs was starting to suggest. Such a scenario would quickly escalate the current coronavirus pandemic sweeping the globe from an economic crisis to a financial one. To be sure, it’s not as if there isn’t reason to be concerned, as companies from Boeing Co. to Hilton Worldwide Holdings Inc. and MGM Resorts International tap their credit lines for emergency cash. It would be a disaster if even just one bank didn’t have the funds to advance their customers when they came calling. “The history of financial markets, for better or worse, is that they lead the economy, not the other way around,” Andrew Sheets, who as Morgan Stanley’s London-based head of global cross-asset strategy is well-known for his skepticism, wrote in a note to clients.