-- Petyr "Littlefinger" Baelish, fictional character in the A Song of Ice and Fire series, Master of Coin on the Small Council under King Robert Baratheon and King Joffrey Baratheon.
US stock markets opened slightly higher on Thursday (Jan. 16) before dipping during the intraday session. On the news, December retail sales data indicated a smaller-than-expected increase and initial jobless claims for the past week surpassed forecasts.
Recent economic data have always given a very ambiguous impression. The decline in retail sales data (indicating weaker demand) backs the decline in both CPI and PPI data (indicating weaker prices); but the simultaneous rise in nonfarm data and jobless claims could be telling us that the labour market is undergoing a structural adjustment.
At the end of the day, the economic data don't give much signal to predict the Fed's next rate decision.
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Market Impact of Fed Meetings
Fed decisions are crucial to the markets.
Back in September 2024, the Federal Reserve (The Fed) kicked off the current rate-cut cycle by announcing a 50 basis point rate cut for the federal funds rate, bringing it down to a range of 4.75% to 5.00%.
The financial market likes it when there's more liquidity (money) to push the asset prices higher.
Further cuts (until now) have also led the S&P 500 to a peak return rate of 8% and the Nasdaq to 12%.
As for this time, the scheduled Fed meeting on January 28 will be the first of 2025 and the first under the new presidency, creating significant market speculation. The outcomes, including potential rate cuts and the comments from Fed Chair Jerome Powell, will have a considerable impact on the market.
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What Assets Are Relative?
Back on January 8, 2025, Eastern Time, the Fed released the minutes of its latest monetary policy meeting.
The Officials decided on the meeting to slow the pace of rate cuts in the coming months, the minutes showed, as inflation risks remained elevated. These concerns about inflation are closely linked to the uncertainty about President-Elect Donald Trump's policies: Sweeping tariffs, deep tax cuts and other policies could add to inflationary pressures, therefore, driving the Fed more cautious about cutting rates.
Looking back into the Fed's September projection, it anticipated a 100 basis point cut in 2025, followed by a 50 basis point cut in 2026, bringing the terminal rate to 2.9%.
The December update adjusted this outlook slightly, showing anticipated cuts of 50 basis points in 2025 and 2026, and 25 basis points in 2027, stabilizing rates at 3.0%.
Affected by a series of "hawkish" signals, the US dollar, stocks, bonds, gold and bitcoin all tumbled after the announcement of the rate cut. The Dow Jones Industrial Average fell more than 1,100 points, marking its first 10-day losing streak since 1974; The S&P 500 fell 2.95%, its worst Fed day since 2001.
The VIX (a.k.a fear gauge) jumped sharply to a four-month high.
For investors, the Fed's policy moves and their impact on prices and the job market should be closely watched. Reasonable adjustment of investment strategy to cope with possible market fluctuations will help to grasp investment opportunities.
Adjusting investment strategies in response to federal policies will be crucial for navigating potential market volatility.
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Climbing the Ladder of Chaos
Investors should monitor the Fed's policies closely.
Here's how rate cuts impact various asset classes:
1. USD: Bearish
Rate cuts typically reduce the US dollar's appeal by lowering the cost of borrowing cash (interest rates), thus, making it easier for investors to get more cash, injecting liquidity into the market.
According to the supply-demand-price relations, in this case, cash would become less rare (therefore less valuable) compared to stocks, derivatives and many other higher-risk assets.
This is when investors tend to seek higher returns elsewhere.
Institutions said that in the short term, with the continuous support of expectations, the valuation of the US stock market has been high, and there are more optimistic expectations included.
Technical indicators such as overbought also continue to heat up. Therefore, if some data is less than expected in the future or the sequence and degree of policy promotion after Trump's election is less than expected, it may trigger part of the "correction" of market sentiment.
But after the correction can intervene again, can wait for the key point of the policy and performance period in mid-January, the current several major indexes are basically at the key support level.
Rate cuts lower yields and increase bond prices. The longer the maturity of bonds, the more beneficial the return would be.
Investment Strategy:
Buy long-term bonds: Because long-term bonds are more sensitive to changes in interest rates, lower interest rates will push their prices up sharply.
Consider reinvestment risk: After interest rate cuts, reinvestment of bonds after maturity may face lower yields, so the holding period of bonds should be strategically adjusted.
Diversified investments: During rate cut cycles, you may want to consider diversifying your portfolio to include some credit bonds or other fixed income instruments to capture additional income.
Keep an eye on inflation expectations: While lower interest rates typically mean lower yields, real yields could fall if inflation expectations rise, affecting the appeal of bonds.
Gold, as a haven asset, is often seen as a store of value in a rate-cutting environment. In the configuration, can account for a certain proportion.
Analysts generally agree that there is a risk of a short-term correction in gold prices, but expectations of global geopolitical instability and potential reflation pressures in the US remain positive for gold in the long term.
While gold has come off its highs, factors such as strong central bank demand, rising investor interest, and a weaker dollar over the medium term should help it reach record highs in 2025, with gold expected to hit US$2,900 / oz by the end of next year, UBS analysts said recently.
The impact of lower interest rates on crude oil is mixed.
On the one hand, economic activity may increase due to low interest rates, driving demand for energy; On the other hand, a weaker dollar could make crude oil priced in the currency cheaper for global buyers, increasing demand.
But if the rate cuts are due to economic weakness, demand could be dampened.
Cryptocurrencies (e.g., bitcoin) don't react to interest rate changes as directly as traditional assets.
A rate cut could be seen as a concern for the traditional financial system, driving up safe-haven demand for cryptocurrencies such as Bitcoin as "digital gold".
In the long term, the price of cryptocurrencies is more influenced by factors such as market sentiment, regulatory news and technological developments, so there is more uncertainty.
If the risk ability tolerance is high, it is recommended to allocate a small amount.
