Around 4 AM yesterday, the Federal Reserve announced a 0.25% interest rate cut, bringing it to a level of 4.25%~4.5%; while interest rate cuts are generally good for the stock market, surprisingly, the three major U.S. stock indices fell instead of rising. Why is that? What impact does it have on us?

01

The reaction of the U.S. stock market is more about expectations rather than the realities that have already materialized.

This time the rate cut was 25 basis points, and the market had already reacted to this several months in advance, so if they only announced a 25 basis point cut, it shouldn't have affected the rise or fall of the U.S. stock market.

The reason the U.S. stock market still fell is because new expectations were released: the Federal Reserve stated that the pace of future rate cuts may slow down.

Originally, the market expected that there would be 3 to 4 rate cuts in 2025, totaling a decrease of 0.75% to 1%;

But the new statement is that there may only be 2 cuts in the future, totaling about a 0.5% decrease.

02

Why would the Federal Reserve slow down the pace of rate cuts?

The Federal Reserve initially raised rates because the economy was too strong and inflation was too high;

Later, inflation decreased, and the Federal Reserve began cutting rates starting in September of this year;

However, after some time, it was found that the U.S. economy remained quite strong;

Inflation still has not fallen to a sufficiently satisfactory level, and it may take one to two more years to reach the 2% inflation target.

The strong economy prevents interest rates from falling, and this 'happy trouble' is likely unique to the U.S., which is somewhat enviable.

It may also be in response to high tariffs;

High tariffs are a double-edged sword; we are sellers, so business is certainly not as good as before, but those buying things also have to pay higher prices;

It's more expensive for ordinary Americans to buy goods, CPI rises, and inflation will go up.

Originally, without tariffs, CPI could have rebounded, but now the expectation of increased tariffs is getting stronger, which puts more pressure on U.S. inflation.

Therefore, the Federal Reserve can only release signals to delay the pace of rate cuts, temper expectations, and inform everyone that future rate cuts are not guaranteed.

This kind of statement to slow down the pace of rate cuts disrupted the previous market expectation of substantial rate cuts, which is why the U.S. stock market fell sharply.

03

So what impact does the Federal Reserve's 25 basis point rate cut have on us?

In the coming period, we need to maintain moderately loose monetary policy;

It should be noted that the strength of 'moderately loose' is quite significant, which means we will continue to lower the reserve requirement ratio and interest rates.

As we mentioned earlier, our monetary policy will still be constrained by U.S. interest rates; if the U.S. cuts rates, we will have room to cut rates and achieve moderately loose monetary policy;

However, there is now an important hypothesis: we may be preparing to break free from the influence of U.S. interest rates; even if the U.S. slows the pace of rate cuts, we will continue to cut rates; the cost of doing this is that we will no longer stubbornly defend the exchange rate. This may be the reason why our market opened low and rose high today, with the RMB exchange rate breaking 7.31, hitting a 13-month low.

Is this judgment correct? In the next couple of days or next week, we will know by observing whether the rate cuts and reserve requirement ratio cuts in December will materialize.

04

Why might we not stubbornly defend the exchange rate anymore?

We know that the U.S. is a developed country, and we are a developing country;

The risk of assets in developed countries is lower than in developing countries;

So logically, U.S. interest rates should be lower than China's.

But now it's exactly the opposite; U.S. interest rates are not only higher than ours, but significantly higher;

The U.S. interest rate is 4%, while ours is less than 2%;

If we want to maintain moderately loose monetary policy, interest rates need to continue to fall;

The large gap between our interest rates and U.S. interest rates will cause a significant amount of capital to flow from Chinese assets to U.S. assets;

Our stock market and real estate market will continue to decline.

If we allow the RMB to depreciate, then those who originally planned to exit will find it less economical to exchange RMB for U.S. dollars, negating the advantages brought by high U.S. interest rates.

So, one hypothesis is that if we want to continue cutting rates and expand the interest rate differential with the U.S., we may be preparing to give up the exchange rate.

If that's the case, the depreciation of the RMB exchange rate may be larger than we expect.

Of course, until something materializes, nothing is 100% certain. My advice is to be prepared for multiple scenarios:

If we continue to defend the exchange rate, then the stock market and real estate market still need to be cautious;

If we no longer defend the exchange rate, then the stock market and real estate market may have good expectations.

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