Author: jinze

Markets experienced a significant pullback last night, largely driven by investor concerns that the Federal Reserve could shift to a more "hawkish" policy path. That sentiment triggered a broad sell-off, particularly among growth and technology stocks. Although the market has reacted violently, I believe that a more in-depth analysis of the current macro environment and policy dynamics is needed to avoid being confused by short-term fluctuations.

Policy interpretation: Hawkish appearance and internal logic
The policy signals released by the Fed mainly focus on the statements that "the pace of interest rate cuts will slow down" and "more data-dependent". Powell made it clear that the Fed will remain highly sensitive to future economic data, and the interest rate cut path in 2025 may include three interest rate cuts, but the possibility of pausing or adjusting the pace is not ruled out. The three interest rate cuts shown in the dot plot are slightly more conservative than the previous market expectations. Therefore, the market believes that the Fed is trying to send a hawkish signal, and the actual interest rate cut may be less than three.

However, judging from the big picture details, this "hawkish" attitude is more superficial:

Economic fundamentals remain resilient, with U.S. GDP growth reaching 3.1% (Atlanta Fed GDP forecast data) and the economic surprise index remaining at an upper-middle level, indicating that economic activity remains robust.

The labor market is showing weakness, with the unemployment rate up 0.7% since June 2023, and labor market tightness easing somewhat (refer to the labor tightness indicator in the Federal Reserve report).

The core inflation trend has stabilized, with the core PCE inflation rate stabilizing at around 3%. Although it has not fallen back rapidly, there is no obvious upward pressure again.

More reasons why the market plunged last night
The market's decline is not only due to the interpretation of the Fed's policy, but also related to the following factors:

Due to the impact of higher secondary market interest rates, the Financial Conditions Index (FCI) rose slightly last week, U.S. Treasury yields returned to their highs six months ago, and mortgage rates have risen 1.5% since September, suppressing real estate demand, etc. However, Trump's victory in the election made the risk asset market turn a blind eye to this.

Technical factors in the market: Although the S&P 500 is close to its historical high, only 45% of its constituent stocks are above their 50-day moving average, indicating that the market's internal breadth is insufficient. This "narrow market" phenomenon has exacerbated the volatility of individual stocks.

The flow of funds has changed. The trading volume increased significantly last night (the trading volume of 1.6 billion shares is far higher than the annual average of 1.2 billion shares), reflecting the risk-averse behavior of institutional investors and the urgency of year-end fund reallocation (fund rebalance generally requires reducing holdings of stocks that have risen a lot).

Is the market panic justified?
I think there was a certain overreaction in the market panic last night. Although there was little good news at the end of the year, it is reasonable for assets that had risen too much before encountering unexpected negative variables to fall. In fact, even if the Fed is "hawkish", it is more likely to release a signal of "gradual interest rate cuts" through the dot plot, which is still a long way from turning to tightening monetary policy. At present, the US economy shows a certain resilience, neither overheating nor free falling. Such economic performance is enough to support the fundamentals of the market.

At the same time, the market sell-off reflects more uncertainty about the future and policy misunderstandings than a deterioration in fundamentals. For example, although financial conditions have tightened over the past week, they are still in a loose range. The market is overly focused on short-term dot plot changes and ignores the importance of long-term economic trends, which requires vigilance.

Market bullish and bearish views diverge
Market participants have clearly diverged in their interpretation of interest rate policy expectations, but both sides have their own sufficient reasons:

Dovish view
Rising credit card delinquencies suggest consumers are facing heightened financial stress.
Commercial real estate (CRE) debt maturities could pose liquidity risks.
The decline in commodity prices and the risk of deflation in China's economy have put downward pressure on the global economy.

Hawkish view
Real economic growth remains strong, with no clear signs of recession in the short term.
Core inflation is stable at 3%, and high fiscal deficits are exacerbating long-term inflationary pressures.
A gradual easing of financial conditions could reignite inflation.

Risks and opportunities coexist
I think the current market decline provides investors with an opportunity to think. From a risk perspective, it may indeed bring the following challenges, such as the possibility of inflation rebound, the hidden dangers of high fiscal deficits, the turmoil caused by large-scale layoffs of DOGE, and the fact that Trump will sell after he officially takes office in January. Of course, we need to pay attention to the long-term and short-term impacts here. The first two are long-term issues that can only be supported by data for several months, while the last two are short-term impacts that may not even be realized.
From the perspective of opportunities, a market crash also means opportunities for some risky assets.

For example:
Concept stocks such as biotechnology and re-industrialization are expected to benefit from a relatively low interest rate environment due to their longer-term characteristics.
In addition, the medium- and long-term logic of growth stocks has not changed due to short-term fluctuations.

In terms of fixed income: there is not much room for further increases after the 10Y exceeds 4.5%.

In terms of digital currency: the buying of MSTR and US institutions has temporarily stopped, but the momentum should return after January.

Investors can look for opportunities to build positions during fluctuations.

My opinion

Finally, I think the current macro environment still does not support large-scale reduction of positions, because the impact of US stocks is more on corporate and economic fundamentals rather than interest rates. For example, NVIDIA has recently pulled back, but its fundamental support is still clear (such as the long-term growth of data center and artificial intelligence demand). In particular, CES, earnings and technology conferences (GTC) in 2025 will continue to provide catalysts for it.

In the long run, the Fed's policy path will be gradual and cautious. In the face of short-term fluctuations, investors need to remain rational and focus on economic fundamentals rather than being driven by dot plots or market sentiment.

Although risks exist, as Powell once pointed out, "persistent changes in financial conditions are the core of policy attention." Therefore, I will continue to maintain a moderately optimistic attitude towards risky assets and look for long-term value in short-term fluctuations.