Tail risk in the world of the Yellen put

Investors have lived through the Greenspan put and the Bernanke put. You could say that many Wall Street professionals have thrived under the central bank "put" strategy behavior of lowering rates and providing liquidity whenever there has been a major stock market sell-off. Certainly many investors  have used the put argument or belief to hold risky or riskier portfolios. You can take the risk because the central bank will bail investors out of problems with liquidity at the right time. A more conservative approach would say that they are providing liquidity when there is a threat of recession which coincides with a market sell-off but the impact has been the same. There is downside asset price protection in bad times.

We are now in the age of the Yellen put, but the world is fundamentally different and investors have to be aware that the current environment will not offer them the same protection as provided for by the central bank in the past.

So what is so different with the Yellen put? The answer is simple and should scare any investor. In the case of Greenspan and Bernanke, they were in a rate environment where the Fed could move rates down and support a rally through conventional monetary policy. Yellen does not have that choice, so if we have a crisis or a recession, it is not clear what the Fed can do except buy the safe asset, Treasuries.

If the credit channel is compromised because rates cannot go lower, the Fed put may not exist or the form of the put is less clear. This means that any tail event could have more impact than what we have seen over the last 25 years. This should have any investor worried.