CITIC Securities believes that the triggering factors for the Federal Reserve's interest rate cuts after 1989 can be divided into two categories: risk management style interest rate cuts and passive interest rate cuts in response to sudden crises. In the current macro environment and geopolitical situation where there is no major sudden crisis, it is highly likely that the current round of interest rate cuts by the Federal Reserve will also be a risk management style.
CITIC Securities believes that the benchmark triggering factor for this Federal Reserve rate cut is the confirmation of inflation returning to 2%. It is expected that this round of rate cuts and its impact on major assets may be most similar to the 1995 rate cut cycle. We need to be cautious of the risk that the number of rate cuts by the Federal Reserve this year may not meet market expectations.
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Overseas Macro | Which year in history is the most similar to the current Federal Reserve rate cut cycle?
Looking back at history, we believe that the triggering factors for the Federal Reserve's interest rate cuts after 1989 can be divided into two categories: risk management style interest rate cuts and passive interest rate cuts in response to sudden crises. In the current macro environment and geopolitical situation where there is no major sudden crisis, it is highly likely that the current round of interest rate cuts by the Federal Reserve will also be a risk management style. We believe that the benchmark trigger factor for this Fed rate cut is the confirmation of the trend of inflation returning to 2%. It is expected that this round of rate cuts and its impact on major assets will be most similar to the 1995 rate cut cycle. We need to be vigilant about the risk that the number of Fed rate cuts within the year will not meet market expectations.
Looking back at history, we believe that the Federal Reserve's interest rate cuts since 1989 can be divided into two categories: risk management style interest rate cuts and passive interest rate cuts in response to sudden crises.
June 6, 1989 and July 5, 1995 were two risk management style interest rate cuts, marking the first and second attempts by the Federal Reserve led by Greenspan to achieve a soft landing. On the surface, September 29, 1998 was a passive rate cut by the Federal Reserve in response to the Asian financial crisis, but the impact of the Asian financial crisis on the United States was limited. From the original intention of the rate cut at that time, it was also a risk management style rate cut. On January 3, 2001 and September 18, 2007, the interest rate was lowered passively in response to the bursting of the Internet foam and the subprime crisis. August 1, 2019 was a precautionary interest rate cut by the Federal Reserve aimed at managing the uncertainty of trade policy. March 3, 2020 is a passive interest rate cut in response to the COVID-19.
In the current macro environment and geopolitical situation where there is no major sudden crisis, it is highly likely that the Federal Reserve's current interest rate cut will also be a risk management style cut. It is expected that the benchmark triggering factor for this Fed rate cut will be the confirmation of inflation returning to 2%. The rate cut may be a gradual "walk and see" approach, and the number of rate cuts this year may be lower than the current market expectation of three.
Firstly, the current US economic growth is showing a downward trend, but the overall macro environment is relatively stable, similar to July 1995, September 1998, and August 2019.
Secondly, the current Federal Reserve Chairman Powell's style is closer to Greenspan's data dependence and risk management model.
Thirdly, the "soft landing" successfully led by Greenspan in 1995 was a model that Powell wanted to replicate and has reference value for the present.
Fourthly, the current AI technology revolution and productivity improvement, similar to those in 1995, are also noteworthy factors in this round.
Fifthly, in terms of the pace of interest rate cuts, it is expected that Powell will adopt Greenspan's gradual rate cut model of "walking and watching" in 1995.
Under the benchmark scenario of no secondary inflation, it is expected that the impact of this round of interest rate cuts on major asset classes may be similar to the 1995 interest rate reduction cycle.
1) In terms of the bond market, it is expected that the first interest rate cut will be affected by economic data and maintain a volatile trend. After the first interest rate cut, both the long and short end interest rates will decline, and the decline in the 2Y US bond interest rate is greater than that of the 10Y US bond. If Powell "walks and watches" and maintains interest rates unchanged during the first interest rate cut meeting, the US Treasury bond rate may remain volatile or slightly rebound until another interest rate cut, and the US Treasury bond rate may fall again.
2) In the foreign exchange market, the current economic growth momentum of the United States is better than that of the UK, Eurozone, and Japan, but overall it is still in a weak trend. Before the first interest rate cut, the US dollar may maintain a volatile and weak trend. After the first interest rate cut, it is expected that the US dollar will weaken and non US currencies will strengthen in the short term. However, after both European and American central banks cut interest rates, the US economy may recover stronger than Europe, and the US dollar tends to strengthen in the third quarter of the election year, and the US dollar index may start to rise again.
3) In terms of the stock market, before the first interest rate cut, the mild cooling of the US economy combined with the AI wave supported the molecular end of the US stock market. However, the overall tight liquidity may be difficult to support further expansion of valuations, and the US stock market may experience overall volatility. After the first interest rate cut, it is expected that global stock markets will rise in the short term. If interest rates remain unchanged in subsequent interest rate meetings and the US economy remains resilient, the US stock market may experience a slight upward trend. Benefiting from the shift towards loose liquidity, the growth style of global equity assets may perform well after interest rate cuts.
4) In terms of commodities, the decline in real interest rates before and after the interest rate cut may continue to benefit gold. If the global economy recovers in the second half of the year, oil and copper prices may rise driven by demand, and gold performance may be relatively weak.
Risk factors:
US inflation falls or rebounds beyond expectations; The Federal Reserve has expanded its interest rate cuts beyond expectations; The US job market has significantly cooled beyond expectations.