“But the price earnings ratios – various measures of fair value – to me, feel like risk is being a little underpriced, mispriced…
“It’s those long-term fundamentals where pricing has become askew at times. People become too excited, fair value remains well below where current prices are.”
Orr said he’d been concerned about the situation for some time.
The S&P 500 has been on an upward trajectory over the past year, up 22%.
It’s similarly about 22% higher than it was at the end of 2021, when interest rates were at rock bottom/monetary conditions were super stimulatory.
While some stocks are doing more of the heavy lifting than others, pushing the index up, the rise has occurred despite Russia’s continued invasion of Ukraine, spreading conflict in the Middle East, militarisation around world as countries deepen ties with their geopolitical partners, and uncertainty over the outcome of the US election.
Orr explained he was worried share prices couldn’t always be explained by how the economy was actually working.
“It might be a slow and unexpected Fed easing that suddenly spooks the market. You get these oversized reactions. We saw Japan just recently.”
Orr said he was interested in how the market would get back to equilibrium.
“Does it come back overnight in a big shock and a panic and undershoot? Or can you take some of these pressures out by good policy?”
Protectionism seeing resources misallocated
The governor was also asked by CNBC about the impact of a possible Donald Trump presidency, given Trump’s protectionist stance.
Orr didn’t mention Trump specifically, but emphasised New Zealand’s reliance on trade, particularly with China.
He noted that if the relationships New Zealand has with various trading partners are eroded, “because there’s some angry fight in a far distant country, it’s bad”.
“I just find it so bizarre – the protectionism arguments going on just now,” Orr said.
“There is so much dead weight cost going on around the world at the moment because of trade fragmentation, protectionism, and it’s just bad. It’s poor bad economics and people will suffer…
“Resources are getting misallocated quite dramatically.”
Questions remain over how quickly interest rates will fall
Orr’s interview with CNBC went live after he delivered a speech to the Peterson Institute in Washington, focussed on the Reserve Bank’s monetary policymaking.
Orr didn’t give too much away, in terms of how quickly the Reserve Bank believed it would be able to cut the Official Cash Rate from where it’s at now at 4.75%.
“Uncertainties about firms’ price-setting behaviour and the persistence of inflation continue to influence the MPC’s [Monetary Policy Committee’s] thinking,” Orr said.
“However, these uncertainties are now set against a lower central outlook for inflation…
“We are in a situation where we can credibly provide the perspective of an economy returning to low and stable inflation, interest rates becoming less restrictive, and economic activity being revitalised.
“But that is just the most recent navigational plot on the ocean chart,” Orr concluded referencing comments he made earlier about the uncertain environment central bankers have been operating in.
“Navigating monetary policy, with a one to two-year lag between policy action and ultimate outcome, is akin to ocean circumnavigation.”
The market response to Orr’s speech was muted.
Jenée Tibshraeny is the Herald’s Wellington business editor, based in the parliamentary press gallery. She specialises in government and Reserve Bank policymaking, economics and banking.
