How will the Fed's sharp interest rate cut of 50 basis points affect the market?

After an unprecedented streak of 11 consecutive aggressive interest rate hikes, the Federal Reserve announced a significant policy adjustment on September 18, U.S. time, reducing the target range for the federal funds rate by 50 basis points to a range of 4.75% to 5.00%. This move marks the Fed's first step into the path of interest rate cuts since 2020, officially bringing the months-long "most aggressive tightening cycle in history" to an end and ushering in a new phase of rate cuts.

Flashing back to March 2022, faced with persistent inflationary pressures that were declining at a slower-than-expected pace, the Fed embarked on an unprecedented spree of interest rate hikes. By July 2023, the policy rate was firmly anchored at a high level of 5.25% to 5.5%, unseen in the past 23 years. However, historical precedents suggest that the onset of a rate-cutting cycle often coincides with the shadows of economic slowdown or even recession. From the oil crisis, savings and loan crisis, bursting of the dot-com bubble, to the global financial crisis and the COVID-19 pandemic, the Fed's decisions to cut rates have almost always been intertwined with challenging economic times.

Recent economic data shows that the U.S.'s core inflation indicator – the Core Personal Consumption Expenditures Price Index (Core PCE) – has retreated to 2.6%, hitting a new low since February 2021 and gradually approaching the Fed's 2% inflation target. Yet, beneath this positive signal lie hidden concerns: sluggish growth in personal consumption, continuous contraction in manufacturing activities, a weakening labor market, and a notable decline in new job creation, all pointing to the possibility that the U.S. economy may be on the brink of recession. Hence, the rate cut is viewed as a precautionary measure by the Fed to tackle economic weakness and bolster economic vitality through monetary easing.

Fed Chair Jerome Powell emphasized in the subsequent press conference that this 50 basis point rate cut is a "forceful action" designed to promptly address economic challenges, strive for a "soft landing" of the economy, and mitigate the risk of "stalling" economic activities. Notably, such a substantial rate cut is unusual in the Fed's history, especially without being directly triggered by a major economic crisis, further underscoring the Fed's dire assessment of the current economic situation and the urgency of its policy adjustments.

As the world's largest economy and a major international currency issuer, the U.S.'s policy shifts undoubtedly trigger ripple effects. Rate cuts are generally viewed as a positive factor for stock markets as they reduce corporate financing costs, potentially stimulating investment and consumption activities. Although U.S. stock markets briefly surged upon the announcement of the rate cut before pulling back, they still demonstrated a degree of resilience overall. Meanwhile, precious metal markets such as gold have also received a boost from rate cut expectations, with the potential for further upside in gold prices amid a potential decline in the U.S. dollar and Treasury yields, potentially challenging historical highs.

In conclusion, the Fed's decision to cut rates is not only a profound response to the current U.S. economic situation but will also have far-reaching implications for global asset markets. The future trajectory of markets will hinge on the strength of the global economic recovery and the policy coordination among central banks worldwide.