If the stock market crashes in 2023 it will be the fault of the Fed and U.S. banks. Here’s what could go wrong.

In a recent report to clients, Kee noted similarities between current markets and 2019, when big banks started questioning levels of liquidity due to a Fed drain, and ultimately pushed overnight lending rates to over 8.5%. The Fed got things under control in a short space of time via massive liquidity injections.

Kee is worried about a 2019-style event for this year amid an increasingly “aggressive” Fed balance sheet runoff —the bank lets a portion of the securities that mature each month fall off its books — and already higher rates. But things could get ugly and it can’t “buy its way out of the problem” this time, he says.

Back then, the Fed “stopped the balance sheet reduction, slashed rates to 0% again, started asset purchases again, and the market took off in 2019.” Unlike now, back then “very few people were pointing to stimulus and asset purchases as catalysts for inflation and inflated asset price appreciation.”

He notes that another $1 trillion needs to come off the Fed balance sheet before it matches the 2019 balance sheet reduction.

Kee’s proprietary Evitar Corte crash indicator, which gauges Fed monetary policy to try to avoid market meltdowns, signaled a crash warning in 2019. He flagged budding liquidity issues to MarketWatch last November.

“We identified massive changes to liquidity (new money) last year, as the FOMC reduced stimulus to $0.  This year the risks of a market crash warning is high, and we have identified liquidity drains from the FOMC (net negative stimulus),” he added in emailed comments. “Between last year and this year, the FOMC has gone from highly simulative, to a massive drain on liquidity.”

What to watch out for? “Recall that the banks became concerned months before the trough in the balance sheet in 2019, so the signals are likely to start to come months before it reaches a boiling point this time too,” he said.

How to prepare? “The best way to approach this is to remain in nimble strategies, like our SPY-Cash Model,” said Kee, referring to his long-favored strategy of alternating between cash and the highly liquid SPDR S&P 500 ETF
SPY,
-0.11%
 .

“There is also enough volatility in the market for some investors to improve cost basis, but everyone needs to be in nimble strategies.  Our CORE Portfolio Strategy has been long all year, up about 8.5% YTD vs 4.4% for SP 500,” he said in emailed comments. (Read more on that here). “CORE also has the ability to neutralize market risk on a dime if the conditions call for it.”

Read: Technical strategist DeMark called the euro bottom. Here’s what he says now about the euro, bitcoin and the Nasdaq-100

The markets

Stocks
DJIA,
+0.31%

SPX,
-0.07%

COMP,
-0.27%
are lower, with bond yields
TMUBMUSD10Y,
3.453%

TMUBMUSD02Y,
4.157%
steady, and the dollar
DXY,
-0.02%
flat. Oil prices
CL.1,
+0.60%
BRN00,
+0.68%
are flat. Bitcoin
BTCUSD,
-1.57%
is holding above $23,000.

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The buzz

3M
MMM,
-6.21%
shares are falling after a disappointing outlook, and the industrial giant also announced 2,500 job cuts, while GE
GE,
+1.17%
stock is choppy as its view was also downbeat. Verizon
VZ,
+1.99%
earnings came up short and shares are down. Better news from Johnson & Johnson
JNJ,
,
whose shares are gaining on an upbeat profit view, Raytheon stock
RTX,
+3.35%
is up after announcing plans to split into three businesses.

Microsoft
MSFT,
-0.22%
and Texas Instruments
TXN,
-0.63%
will headline after hours. Microsoft on Tuesday announced a  “multiyear, multibillion-dollar investment” in AI startup OpenAI, maker of ChatGPT. Our tech editor Jeremy Owens says it’s unlikely the tech giant will be challenging Google in search now.

Amazon
AMZN,
-1.23%
is planning a subscription prescription drug service.

The feds are reportedly preparing to sue Alphabet
GOOGL,
-2.09%
again, this time over dominance in the online ad market.

January’s flash services purchasing managers index climbed to 46.6 in January from 44.7 and the manufacturing PMI survey rose to 46.7 from 46.2.

“Everything, everywhere, all at once” landed 11 Oscar nominations.

Best of the web

Why naked short selling has suddenly become a hot topic

Common currency confusion. No, Brazil and Argentina aren’t planning a South American version of the euro.

CIA-founded Radio Free Europe is experiencing a renaissance due to Russia’s invasion of Ukraine

The chart

The commodities market may have priced in less of China’s reopening growth boost, “and may have more upside than more forward-looking assets like equities,” say Goldman Sachs analysts Callum Bruce and Romain Langlois, in a note.

“We estimate that this has largely been a result of higher interest rates and the associated volatility, keeping passive flows on the sidelines,” they said, adding that commodity markets should start to tighten up on China’s reopening, drawing more investor flows.

The tickers

These were the top-searched tickers on MarketWatch as of 6 a.m. Eastern:

Random reads

Water from Disney’s shuttered Splash Mountain ride is selling for $100+ an ounce on eBay.

Lifeguard conquers 30-foot waves, beats out biggest names in surf to claim ‘The Eddie’ crown in Hawaii

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