Last night, a student posted a picture in the group. After each rate cut by the Federal Reserve, the U.S. stock market fell. He said that it was unverified. I thought, such an important thing, we have to verify it. So today I turned on the computer and saw that it was indeed falling. Then the logic that everyone generally said that flooding the market leads to rising boats was instantly overturned. After escaping the two-year bear market, we experienced another half-year long crypto winter. It seems to be a feeling of adding insult to injury. First, let's take a look at the picture. Then let's sort out why the Federal Reserve cut interest rates each time, and what impact will it have on crypto assets? This article is long and requires reading and digestion skills! There is a summary, comparison and explanation at the end of the article.
We will show the stock market performance before and after the rate cut from the Dow Jones Index, which represents traditional industries, and the Nasdaq Index, which represents technology stocks. It should be noted that in the past few decades, both have generally risen sharply!
Here is a thumbnail and breakdown of the Dow Jones Industrial Average:
Here is the Dow's performance after rate cuts in 1969, 1973 and 1981, all of which saw declines and then increases:
Below are the data from 2000 and 2007, both times the Dow Jones Industrial Average was down.
This is basically consistent with the data in the earliest figure! The Nasdaq index is also falling. Because there are too many pictures, I only show the overall picture.
In fact, the Fed's interest rate cuts fall into two categories: bailout-style rate cuts are common after a crisis, and preventive-style rate cuts are mostly when the economy shows signs of slowing down. The former has a larger rate cut and lasts longer. Equity assets have a higher chance of winning during preventive rate cuts. After the rate cuts, US bonds and Chinese bonds also fall in the short term. The US dollar is likely to weaken, and gold has greater elasticity in rising during bailout-style rate cuts.
Recently, the US inflation data has continued to decline, and high-frequency economic data has weakened marginally. The market generally expects that the Federal Reserve will start to cut interest rates in September. Looking ahead to the second half of the year, the Fed's interest rate cut will be a key factor affecting the trend of global asset prices. Learning from history, what are the rules of the Fed's interest rate cut methods and rhythms in history? How do global asset prices perform during the interest rate cut cycle? This article analyzes this. Because the data in the picture shown by the students is actually missing and not comprehensive, after our comprehensive summary, this picture has a serious misleading tendency. Someone on the Internet is carrying private goods!
1. Relief-style interest rate cuts: policy measures taken to deal with unexpected shocks
Since 1982, the Federal Reserve has carried out four bailout-style rate cuts and five preventive rate cuts. According to the purpose of the rate cut, the Federal Reserve's rate cuts can be divided into two categories: bailout-style rate cuts and preventive rate cuts. The main difference between the two is whether the US economy has entered a recession when the rate cut occurs. The former often occurs after the economy has entered a clear recession and is used to stimulate the economy, while the latter is common when the economy has not yet entered a recession and is intended to prevent the risk of recession.
So how do we quantitatively determine whether the US economy is in a recession?
There are three commonly used methods: ① NBER recession interval: The National Bureau of Economic Research (NBER) is an authoritative institution that defines the US economic cycle. It determines the recession interval by considering six major indicators, such as personal real income after deducting transfer payments and non-agricultural employment. ② Sahm rule recession index: Economist Claudia Sahm proposed the Sahm rule. When the Sahm rule recession index (unemployment rate 3-month moving average - previous year's low) exceeds 0.5%, it indicates that the economy is experiencing a recession. ③ Custom recession index: Considering that the Fed's monetary policy goal is to achieve full employment and maintain price stability, the economic recession is assessed through four indicators: GDP quarter-on-quarter annualized rate, manufacturing PMI, core PCE and unemployment rate. Combining the above judgment methods and the trend of the federal funds rate, the Fed has launched four relief-style interest rate cuts and five preventive interest rate cuts since 1982.
Relief-style rate cuts: Common after regional/global crises, with large rate cuts and long duration. Since 1982, the Federal Reserve has carried out four relief-style rate cuts, each of which corresponds to major regional/global crisis events. Since these crisis events are often sudden and have a wide range and deep impact, the relief-style rate cuts are larger, more frequent, and last longer (see Table 1 for details). The following article will review in detail the macro background, rate cut rhythm, and effects of the previous relief-style rate cuts.
2. Preventive interest rate cuts: policy preparation in the face of adverse factors
The previous article mainly reviewed the macroeconomic background, rate cut rhythm and effect of the Fed's previous bailout-style rate cut cycles. Unlike bailout-style rate cuts, the purpose of preventive rate cuts is to prevent the risk of economic recession that has not yet occurred, that is, the economy has not yet entered a recession. In what era do preventive rate cuts usually occur, and what is the magnitude and frequency of rate cuts? The following will analyze.
Preventive rate cuts: They often occur when economic indicators show a slowing trend, with a small rate cut and a short duration. Since 1982, the Federal Reserve has carried out five bailout-style rate cuts. Usually, at this time, the growth rate of certain economic indicators has slowed down or declined. The Federal Reserve cuts interest rates to prevent risks. The specific reasons for triggering preventive rate cuts are quite diverse. From the perspective of the pace of rate cuts, compared with bailout-style rate cuts, preventive rate cuts are small in magnitude, short in duration, and less frequent (see Table 2 for details). The following article will review in detail the macro background, rate cut rhythm and effects of previous preventive rate cuts.
3. Asset performance: Equity has a higher winning rate during the period of preventive interest rate cuts
In the above, we have reviewed in detail the macroeconomic background, rate cut rhythm and effect of the Fed's interest rate cuts since 1982. Furthermore, what impact have the Fed's interest rate cuts had on the price trends of major global asset classes? The following article will discuss the performance of equity, fixed income, foreign exchange and commodity asset prices during the interest rate cut cycle one by one, in order to provide a reference for investors.
The Fed's interest rate cut will significantly affect the trend of equity, fixed income, and foreign exchange assets, but the rise and fall patterns of commodity prices are not obvious. Observing the performance of various major asset classes during the 9 complete interest rate cut cycles, we can find:
The equity winning rate increased one month after the preventive rate cut. After the rate cut, the US bond interest rate fell and the Chinese bond interest rate also fell in the short term. Furthermore, by reviewing the price trends of various major asset classes in the 9 rate cut cycles within 30 days, 60 days, 90 days, 120 days, 150 days and 180 days after the first rate cut, we can find that:
Equity: The winning rate of preventive rate cuts increases one month after the implementation of the policy, and the performance of recessionary rate cuts is related to the repair of fundamentals. According to different types of rate cuts, if the Fed adopts a preventive rate cut, combined with the above analysis, the economy often has a marginal slowdown or a trend shift. Data show that within one month of the first preventive rate cut by the Fed, the increase in equity assets is usually not large, but the probability of increase after one month usually increases. This may be because preventive rate cuts can often quickly produce positive effects and reverse signs of economic weakness, thereby driving the stock market up. It is worth noting that the winning rate of Wind All A and CSI 300 is higher within one month of the first preventive rate cut. For recessionary rate cuts, we found that stock indexes rose generally in the recessionary rate cut cycles of 1989 and 2020, while stock indexes fell generally in 2001 and 2007. The key behind this may be whether the rate cut can quickly repair the fundamentals. Specifically, after the recessionary rate cuts in 1989 and 2020, the US manufacturing PMI showed signs of recovery, while the PMI recovery in 2001 and 2007 was relatively weak.
Commodities: Gold has greater upward elasticity after a bailout-style interest rate cut, while the trend of crude oil has little correlation with interest rate cuts. In terms of gold, the two bailout-style interest rate cuts in 2007 and 2020 were quite special. Gold rose by more than 20% within 3 months of the first rate cut, and rose significantly again 3 months after the rate cut. The possible reason for these two increases is that instability factors continue to exist after major crisis events, which enhances the allocation value of gold as a safe-haven asset. Overall, during the period of bailout-style interest rate cuts, the price of gold is relatively more elastic. In contrast, crude oil prices do not show obvious patterns in either recessionary or preventive interest rate cut cycles. It can be seen that crude oil prices may be more affected by factors such as supply and demand at that time.
On the other hand, the Federal Reserve is likely to enter a rate cut cycle, coupled with the improvement of domestic fundamentals, the market center is expected to rise. Recently, U.S. inflation has continued to ease and economic data has shown signs of weakening. The market expects the Federal Reserve to start cutting interest rates in September. In terms of inflation, the U.S. CPI was 2.9% year-on-year in July, down 0.1 percentage point from June, and has eased for four consecutive months; in terms of economic data, the U.S. manufacturing PMI was 46.8% in July, which has fallen for four consecutive months. In addition, on July 31, Federal Reserve Chairman Powell said at the FOMC meeting press conference that "if we get the data we expect, there is a possibility of discussing lowering the policy interest rate at the September meeting." Against this background, the Federal Reserve may start a rate cut cycle in the second half of the year. According to Fed Watch data, as of 24/08/16, the market expects the Federal Reserve to cut interest rates in September, with three rate cuts this year. Looking forward, the Federal Reserve's rate cut will help long-term funds return to the A-share market.
Risk warning: The implementation of the stable growth policy is slower than expected, and the A-share market and domestic economic recovery are slower than expected.
Summary: We have reviewed the bailout-style interest rate cuts and the preventive-style interest rate cuts. The former is a countermeasure after the crisis occurs, while the latter is to prevent the crisis from happening. The former brings different ups and downs in the US stock market, with some ups and some downs. After the latter interest rate cut, the US stock market mainly rises.
In this case, the crisis did not occur, and it was a preventive rate cut, i.e. the latter. There is a high probability that the US stock market will have a rising trend.
As far as the crypto market is concerned, based on our recent technical indicators, there is a risk of decline and we need to be on guard. The decline may occur before the interest rate cut. After the interest rate cut, the technical indicators will most likely bottom out and have upward technical characteristics.
(The crypto industry is highly volatile, this is just a sharing of opinions, not investment advice)
Some of the content is referenced from Haitong Securities
