Fed Governor Lael Brainard said in a recent statement that “vulnerabilities associated with elevated risk appetite are rising,” adding, “the combination of stretched valuations with very high levels of corporate indebtedness bear watching because of the potential to amplify the effects of a re-pricing event.” This according to a recent article in Bloomberg.

In the current environment, says Brainard, share prices could be vulnerable to “significant declines” if risk appetite were to decline.

The article notes that near-zero interest rates and the Fed’s massive bond purchase program have “fueled a search for returns and helped buoy asset prices including those of risky investments such as speculative stocks, cryptocurrencies and high-yield debt.” The article cites comments from Cato Institute senior fellow George Selgin: “The real story here is the tension—if not the glaring contradiction—of the Fed’s pursuit of quantitative easing, the aim of which is to lower long-term rates and encourage reach for yield, and their concern that people are indeed reaching for yield.” He added that the Fed could taper its easing activities to offset some of the increased risk-taking.

The Fed report reportedly noted that hedge funds are highly leveraged and called for greater transparency on risk exposures: “Some hedge funds with substantial short positions sustained losses during the meme stock episode in January 2021, when intense social media activity contributed to fluctuations in the prices of some specific stocks.”