How Money Printing Has Suppressed Volatility
Stock Prices reflect the flow of money not the actual value of the business
The way stocks are priced today is very different from the past. Two big changes have made this happen: central banks printing money and the rise of automatic investing through index funds.
What Happens When Central Banks Print Money
When the Federal Reserve “prints money” (mostly digitally these days), several things happen:
Cash floods the system: Now everyone has cash sitting around that needs to go somewhere. Much of it ends up in stocks. This is sometimes called “There Is No Alternative” - if you want your money to grow, you’re forced into the stock market.
Volatility drops: All this extra money flowing around makes the market calmer and less choppy.
Automated Buying Ignores Fundamentals
Buying on autopilot: Every two weeks when people get paid, money from millions of retirement accounts automatically buys stocks through index funds. These purchases happen no matter what - whether stocks are expensive or cheap, whether companies are doing well or poorly. The money just keeps flowing in.
No questions asked: Unlike traditional investors who research companies, index funds just buy whatever stocks are in the index based on company size. They don’t care if a company is overpriced.
Why Some Stocks Keep Going Up (Even When They Shouldn’t)
Constant buying pressure: Even when business results get worse, retirement money keeps flowing into index funds every paycheck. This steady stream of buying props up prices.
The Fed safety net: Central banks have shown they’ll step in to rescue the market when things get scary. This makes people feel safer holding stocks, which attracts even more money, making markets even calmer. It’s a cycle that feeds itself.
Everything moves together: Because index funds buy baskets of stocks all at once, good companies and bad companies tend to rise together.
Why Traditional Analysis Doesn’t Work Like It Used To
Earnings don’t matter as much: A company can report disappointing profits but its stock still goes up if enough index fund money is flowing in that day. Meanwhile, a company improving its business might see its stock go nowhere if it’s not in the major indexes.
Stocks stay expensive: Traditional measures like price-to-earnings ratios have gotten much higher than historical averages and just stay there. The market can look “overpriced” forever as long as the money keeps flowing.
Big get bigger: The largest companies get the most money from index funds simply because they’re already big - not because they’re the best businesses. This creates a snowball effect where size creates more size.
Price discovery breaks down: With fewer people actually analyzing companies and more money going into passive funds, the market gets worse at figuring out what stocks are truly worth. Prices reflect the flow of money more than the actual value of the businesses.
The Hidden Dangers
This system seems stable, but there are risks lurking:
Calm before the storm: Just because we don’t see crashes doesn’t mean risk has gone away. It might be building up quietly. If the flow of money ever reverses (like when baby boomers retire and start selling), things could unravel quickly.
Money goes to the wrong places: Companies that are in indexes get investment money whether they deserve it or not. This might keep failing companies alive while starving good new companies that aren’t in indexes yet.
The Bottom Line
Money printing has broken the old rules of how stocks get priced. Instead of prices reflecting company performance, they reflect money flows and central bank support. Markets look stable and calm, but this artificial calm might be hiding problems that could explode later.