Fed Easing Changes the Game for Fixed Income Investors

Economic

Central Bank

Summary:

The Fed does not condition its rate forecasts on recession, but rather on a view that real GDP growth and inflation will both be trending near 2%.

The Fed chose to end the monumental suspense over “25 or 50” basis points for its first rate cut of the easing cycle with the more decisive action. Wisely, it chose not to make us wait all year for a “meager 25.”

Whatever the Fed’s decision, further declines in US policy rates have always been just a matter of time. Is the Fed uncertainty all out of the way now? The Fed’s decisiveness actually left markets less clear in some respects. Short-term fixed income markets are now roughly split 50/50 on the chance of 25 or 50 basis point rate cuts at both the November and December FOMC meetings. The “25 or 50” agony will continue.

By the end of next year, fixed income markets now price cuts in the Fed funds rate from a peak of 5.5% all the way down to 3.0% (this represents the “top end” of the Fed’s target range).

Of course, Treasury yields could still move lower, particularly when equities and credit markets weaken. This is why we believe investors should consider allocating at least a portion of their investment portfolio to Treasury securities as a core holding to provide some “ballast” should the economy unexpectedly weaken.

Portfolio considerations

Fixed income investors need to shift their focus to wisely managing credit risks. There are standout yields still available across the risk spectrum ranging from government-backed mortgage securities to high yield loans. We believe diversified portfolios should not exclude US Treasuries even as yields have moved decisively lower. But Treasury Bills in isolation are not a portfolio.

Fed Easing Changes the Game for Fixed Income Investors_1

Fed Policy Rate Likely to Fall to 3.4% by end-2025

As it seeks to engineer a full normalization and “soft landing” of the US economy, this past Wednesday the FOMC cut the Fed Funds rate by 50bps, taking the rate down to 5%. This was the first rate cut since the pandemic shock of 2020. The FOMC also published its “dot plot,” an estimate of where the Fed thinks the Fed Funds rate might be in the next few years. While this dot plot often proves inaccurate, it does provide a window into the Fed’s current expectations. For now, the Fed is indicating the possibility of six more 25bps rate cuts through the end of 2025, down to a top Fed Funds rate of 3.50%. In 2026, the Fed indicates the possibility of another few cuts, down to about 3%. Futures markets are slightly more aggressive on the pace of Fed rate cuts but not really the depth. The market currently prices nearly 2% of cuts down to 3% in 2025, with perhaps one more cut after that to 2.75% in 2026.

When looking at both the Fed’s dot pot and the futures market, they both coalesce around an ultimate “neutral rate” of about 2.75-3% for Fed Funds at some point in late 2025 or early 2026. The US Treasury market has already priced in much of this potential shift in yields lower, so since the time of the Fed’s previous dot plot back in mid-June, the yield curve has declined considerably. Most of the decline has occurred in the “intermediate” portion of the yield curve (2-7 years), an area we have long favored for investors. The 2y yield, for example, has declined by more than 100bps, while 5y yields have declined almost 80bps and the 10y has dropped by about 50bps.

A US Recession May Impact Rates Further

Of course, the more important question for most investors is what the Fed will achieve. The Fed’s growth and inflation forecasts are steady and have barely changed. In line with updates to data since June, the unemployment rate forecast is a tad higher. But the Fed has roughly doubled the speed of its expected rate cuts. This is far closer to bond market pricing than the Fed’s previous forecast and closer to historic experience.

While we indeed expect the US labor market to continue slowing, it’s most notable that output data continue to remain firm. On a year/year basis, US real GDP growth exceeded 3% in 1H 2024 and tracking data suggest a roughly 2.5% pace this quarter. Strong labor markets didn’t mean strong corporate profits in 2023. Similarly, a slower labor market hasn’t inhibited a broadening profits recovery in 2024.

O/Ws Continue for Equities

Meanwhile, US policy is a critical question for the world. As this past week showed, the Fed has moved decisively in a more friendly direction for global asset prices. Foreign policy, US fiscal policy, and tariff policy could be a different story. There, the question is “how disruptive might US policy be?”

These questions weighed on our Global Investment Committee as we held our allocations steady this week. We maintained overweights in equities centered in US “broadening strategies” aimed at softening tech concentration risk. In the long run, we will need to carefully assess any changes in the drivers of US outperformance, which has been profound in the past 15 years. Potential policies of the upcoming US administration could potentially shock, strengthen, or weaken that trend.

We’ve also maintained overweights in US bonds while underweighting global bonds given the US yield advantage. Even so, the declines in US Treasury yields across all maturities represents a new investor challenge. It requires us to focus on segments of the bond market where yields have remained high on a risk-adjusted basis.

But we think investors may benefit from differentiated types of credit in the core fixed income portion of their investment portfolio (depending on their knowledge of the products, their risk tolerance, and other suitability factors). Based on our view that real GDP growth this year and next will be around 2.4%, we estimate that credit spreads – the return one can earn over Treasury yields – will remain relatively range-bound.

We believe investors should therefore consider intermediate maturity investment grade corporate bonds as a core fixed income holding. Credit spreads remain very tight, declining from about 150bps a year ago to about 80bps currently. While this spread is not particularly high relative to historical levels, it is still incremental yield in addition to Treasury yields and should provide some additional income.

To stay updated on all economic events of today, please check out our Economic calendar

Risk Warnings and Disclaimers

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FED

Remarks of Officials

Central Bank

On September 25, Fed governor Adriana Kugler expressed her latest opinions regarding inflation and the labor market:

Inflation based on personal consumption expenditures (PCE) has come down from a peak of 7.1 percent on a year-on-year basis to 2.5 percent in July. Core PCE inflation has come down from a peak of 5.6 percent to now 2.6 percent. Headline PCE and core PCE inflation are expected to be at about 2.2 and 2.7 percent, respectively, in August, consistent with ongoing progress toward the FOMC's 2 percent target.

Goods inflation has reverted to its longer-term pattern as demand has moderated and supply chain problems have abated. Food and energy inflation has moderated over the past two years and are now both running at 12-month rates of 1.4 percent and 1.9 percent, respectively. Housing services price moderated to a 5.3 percent pace in July. But now inflation for services excluding housing is declining, after a temporary escalation in the first quarter of this year that was likely partly due to residual seasonality. To sum up, inflation has broadly moderated as the supply of goods and services has improved, and as producers and consumers have adjusted to the effects of higher prices.

The labor market showed signs of cooling. As a result of improved supply and easing of demand for workers, the labor market has rebalanced. After running at very low levels, unemployment has edged up this year to 4.2 percent in August, still quite low by historical standards. Job creation stands at an average of 116,000 in the three months ending in August, and the ratio of job vacancies to the number of people looking for work has also fallen close to its pre-pandemic ratio.

The combination of significant ongoing progress in reducing inflation and a cooling in the labor market means that the time has come to begin easing monetary policy, while the discussion of labor markets has recently become a greater focus of monetary policy. It is essential to avoid unnecessary pain and weakness in the economy as disinflation continues in the right trajectory. I strongly supported last week's decision and, if progress on inflation continues as I expect, I will support additional cuts in the federal funds rate going forward.

Kugler's Speech

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FastBull Featured

Daily News

[Quick Facts]

1. Kugler backs further rate cuts if inflation continues to ease as expected.

2. US new home sales decline in August alongside falling house prices.

3. BOJ July meeting minutes note vigilance over upside risks to inflation.

4. US Congress passes stopgap funding bill, averting a government shutdown.

[News Details]

Kugler backs further rate cuts if inflation continues to ease as expected

In Wednesday's address, Federal Reserve Board Member Kugler expressed staunch support for the Fed's decision to cut rates by 50 basis points, underscoring concern for the job market. It is now appropriate for the Fed to focus on employment given signs of cooling yet resilient labor conditions. The FOMC must balance concerns to advance in taming inflation without causing undue hardship or weakening the economy. Should inflation progress as anticipated, Kugler would back extra rate decreases.

US new home sales decline in August alongside falling house prices

Data released by the US Department of Commerce revealed that annualized new home sales in August reached 716,000 units, above the predicted 700,000, but lower than July's 739,000. New home sales dropped by 4.7% month-on-month following a 10.6% gain in July. Median house prices declined 4.6% YoY to $420,600, marking the seventh consecutive monthly decline. Post a significant increase in July, August's drop in new home sales reflects buyers' patience amid declining mortgage rates despite warming market sentiment.

BOJ July meeting minutes note vigilance over upside risks to inflation

July's Bank of Japan (BOJ) policy meeting minutes indicated BOJ policymakers advocating gradual, timely interest rate hikes. Members unanimously agreed to stay alert to the risk of inflation exceeding forecasts. Several noted an upward adjustment to reach 0.25%, tempering monetary accommodation, was fitting. Some suggested phasing out extremely low rates incrementally to avoid abrupt future rate hikes.

US Congress passes stopgap funding bill, averting a government shutdown

Congress approved a stopgap spending bill on Wednesday to prevent a partial federal shutdown due next week, despite grievances from many House Republicans about leadership failing to negotiate fresh federal budget cuts.

Extending current discretionary spending levels of roughly $1.2 trillion annually until December 20th, the bill avoids mandatory furloughs for thousands of federal workers. It averts disruption of major government services weeks before the November 5th election.

Numerous House Republicans defied their leaders, voting against the stopgap measure, reflecting President Trump's earlier endorsement of a government shutdown unless controversial provisions banning non-citizens from federal election voting, already illegal, were attached to the spending bill.

[Today's Focus]

UTC+8 15:30 SNB Interest Rate Decision (Sept)

UTC+8 16:00 SNB Chairman Jordan's Press Conference

UTC+8 20:30 US Durable Goods Orders Prelim (Aug)

UTC+8 21:20 Fed Chair Powell Delivers Pre-recorded Video Remarks at Event Kickoff

UTC+8 21:25 Remarks by NY Fed President Williams

UTC+8 21:30 ECB President Lagarde, Vice-President Guindos, and Supervisory Board Chair Buch Speak

UTC+8 22:00 US Existing Home Sales (SA) (Aug)

22:30 Speech by Fed Governor Barr

01:00 Next Day: Fireside Chat Between Minneapolis Fed President Kashkari and Fed Governor Barr

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SAXO

Economic

Global Market Quick Take: Asia – September 26, 2024_1

Macro:

US new home sales fell 4.7% in August to 716k from 739k, but above the expected 700k, whereby new home supply was 7.8 months' worth (prev. 7.3 months' worth).

Sweden’s central bank, the Riksbank, maintained a dovish tilt at the September meeting, cutting rates for a third time by another 25bps to 3.25% and guiding for further rate cuts at the two remaining meetings this year to reach 2.75% by year-end. Next up today will be the

Swiss National Bank, which is also expected to cut rates, but key will be to watch the language on FX as the central bank may not be too welcoming of the franc strength now that disinflation has returned.

Macro events: SNB Policy Announcement, US Durable Goods (Aug), GDP Final (Q2), PCE Prices Final (Q2), Initial Jobless Claims (w/e 21st Sep)

Earnings: Costco, Accenture and Jabil

Equities: U.S. stocks saw mixed performances on Wednesday as investors evaluated the Federal Reserve's rate cut trajectory. The S&P 500 and the Dow declined by 0.2% and 0.7%, respectively, pulling back from earlier highs, with energy stocks such as Chevron (-2.4%) and Exxon Mobil (-2%) leading the losses. Conversely, tech stocks including Nvidia (+2.2%), Intel (+3.2%), and AMD (+2.3%) provided some support, helping the Nasdaq close flat. Micron surged 13% post market after reporting revenue and earnings that beat estimates and in additon projecting this quarter’s revenues to be between $8.5-$8.9 billion, above the $8.5 billion estimates. Looking ahead, investors are now focused on upcoming key economic data, including the GDP report tonight and the PCE inflation index on Friday.

Fixed income: Treasuries ended weaker across the curve as the market absorbed a $70 billion 5-year note auction and a surge in corporate bond supply. U.S. yields had decreased by 4 to 5 basis points across the curve, with spreads remaining within a narrow intraday range. The 10-year yields settled around 3.77%, down by 5 basis points for the day. With no major price catalysts, market focus shifted to duration events. The busy corporate issuance schedule was led by Oracle’s four-part offering, with the day’s total expected to exceed the top end of dealers’ forecasts of $25 billion for the week. The $70 billion 5-year note auction was solid, resulting in minimal price movement and stopping on the screws. Additionally, Treasury Secretary Janet Yellen is scheduled to speak at the U.S. Treasury Market Conference at 11:15 AM ET. Federal Reserve Governor Adriana Kugler expressed strong support for the central bank’s recent decision to lower borrowing costs by half a point last week, noting that further rate cuts would be appropriate if inflation continues to ease as anticipated.

Commodities: Oil stabilized after its largest drop in two weeks, as Libya's rival factions agreed on new central bank leadership, potentially allowing some crude production to resume. West Texas Intermediate stayed below $70 a barrel after a 2.6% decline on Wednesday, while Brent crude hovered near $73. Libya's eastern and western administrations "initialed an agreement" on the central bank board, with a signing ceremony scheduled for Thursday, according to the UN. A stronger dollar also pressured commodities priced in the currency, including oil. Spot gold hit a record $2,670.57 an ounce before trimming gains, having surged 29% this year, while silver climbed 34%. Indian gold demand is expected to be strong due to a reduction in import tax and an anticipated robust festival and wedding season. Base metals steadied as investors assessed the impact of a Chinese stimulus package on the world's largest metals consumer.

FX: The US dollar turned back higher due to its safe-haven appeal after significant Middle Eastern escalations and focus will turn back slightly to Fed today as Chair Powell and NY Fed’s Williams take to the wires along with a host of other committee members. Labor market focus also makes it key to watch the weekly US jobless claims print that will be out today. Activity currencies led the losses against the US dollar, with kiwi dollar plunging back below 63 cents and Aussie dollar failing at 69 cents and back below 0.6850. Japanese yen and Swiss franc were also in red despite being safe-havens with the former reaching three-week lows against the US dollar. The offshore Chinese yuan also retreated after trading below the key 7 handle against US dollar for a brief period yesterday.

To stay updated on all economic events of today, please check out our Economic calendar

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FxPro

Cryptocurrency

Market Picture

The crypto market rose 1.2% in 24 hours to $2.25 trillion, approaching the highs set exactly one month ago. New highs could attract more buyers and signal a break in the multi-month downtrend. The sentiment index rose to 59, the highest since late July, which looks like the optimal range for further gains. It is far from extreme greed, which signals overbought conditions, and fear-selling is behind us.

Bitcoin hit a new monthly high of $64.7K early on Wednesday but has since pulled back around $1000 – a common pattern of late. The first cryptocurrency has been struggling to find equilibrium near the highs of late last month and near the 200-day moving average. It will take new data and momentum to tip the price out of equilibrium. There is a risk that short-term gains in risk appetite on policy easing in the US and China will fade.

Tron is giving up positions for the second day in what so far looks like new bearish momentum after a corrective bounce. The focus will be on how the coin behaves on the decline from the current $0.15 to $0.1450. An update of the local lows will take the main scenario down to $0.132. The ability to stay above it will potentially open the way for an update of the highs at $0.168.

News Background

According to 10x Research, Bitcoin could hit new all-time highs in October thanks to Fed rate cuts and upcoming payments to creditors of bankrupt crypto exchange FTX.

Ethereum has grown almost twice as fast as Bitcoin since the Fed’s rate cut on 18 September. Following the monetary easing in the US, funding rates for ETH-based perpetual futures turned positive, according to CoinGlass data, reflecting increased demand for leveraged long positions.

According to QCP Capital, interest in the Ethereum options market has shifted from puts to calls. The implied volatility of ETH contracts exceeds that of Bitcoin by 9%, suggesting improved sentiment and potentially greater price movement.

Play Solana has opened pre-orders for the PSG1 blockchain-enabled handheld gaming console. The PSG1 supports Solana blockchain-based games and has a built-in hardware wallet.

Risk Warnings and Disclaimers

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Justin

Economic

This undated picture shows the Bank of Korea headquarters in Jung District, Seoul. Courtesy of Bank of Korea.

Korea posted a trade surplus in intellectual property rights (IPRs) in the first half of the year, partly due to trade surplus in copyrights, central bank data showed Wednesday.

The country's cross-border IPR trade surplus stood at $140 million in the January-June period, compared with a surplus of $370 million in the second half of last year and a shortfall of $1.9 million a year earlier, according to the preliminary data from the Bank of Korea (BOK).

The IPR trade surplus stemmed partly from a narrowed deficit from trade of industrial property rights, including patents, which came to $1.13 billion in the first half.

The country posted a surplus of $1.34 billion in copyright trade, including cultural and art content, and software development in the first half of the year.

In particular, the country reaped a record trade surplus in cultural and art copyrights at $650 million, according to the data.

The country's manufacturing sector posted an IPR trade surplus of $1.66 billion in the first half, while the service sector posted a deficit of $1.62 billion, the data showed.

By country, Korea posted deficits with the United States and Britain of $850 million and $1.74 billion, respectively.

With China and Vietnam, the country logged surpluses of $1.25 billion and $910 million, respectively, according to the data. (Yonhap)

Source: Koreatimes

To stay updated on all economic events of today, please check out our Economic calendar

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Glendon

Economic

The stock market has long been a source of fascination for filmmakers, inspiring a variety of films that explore themes of greed, ambition, power, and the tumultuous nature of financial markets. From biographical dramas to thrilling narratives, these movies provide a captivating look at the world of finance, investment, and the consequences of high-stakes trading. Here’s a closer look at some of the best stock market movies to watch, each offering a unique perspective on the industry.

1. Wall Street (1987)

Directed by Oliver Stone, Wall Street is arguably one of the most iconic films about finance ever made. The film stars Charlie Sheen as Bud Fox, a young stockbroker who becomes entangled with Gordon Gekko, played by Michael Douglas, a ruthless corporate raider. Gekko's famous mantra, “Greed is good,” encapsulates the ethos of 1980s finance, and the film delves into the moral dilemmas and ethical gray areas of the financial world.

The film’s sharp dialogue and memorable performances make it a must-watch for anyone interested in the stock market. It captures the allure and pitfalls of Wall Street, showcasing the lengths to which individuals will go to achieve wealth and power.

2. The Wolf of Wall Street (2013)

Directed by Martin Scorsese and based on the memoir of Jordan Belfort, The Wolf of Wall Street follows the rise and fall of a stockbroker who engages in rampant corruption and fraud. Leonardo DiCaprio stars as Belfort, delivering a captivating performance that highlights both the excesses and consequences of a life driven by greed.

The film provides a raw and entertaining look at the hedonistic lifestyle of Wall Street in the 1990s, featuring lavish parties, drug use, and unscrupulous business practices. While it’s a cautionary tale about the pitfalls of greed, it also offers a compelling narrative that keeps viewers engaged.

3. Margin Call (2011)

Margin Call is a gripping drama that takes place over a 24-hour period at a large investment bank during the early stages of the 2008 financial crisis. The film boasts a stellar ensemble cast, including Kevin Spacey, Paul Bettany, and Jeremy Irons. It explores the moral dilemmas faced by employees when they discover the impending collapse of their firm due to risky investments in mortgage-backed securities.

The film offers a realistic portrayal of the high-stakes environment of investment banking and the difficult decisions that individuals must make when their actions could impact countless lives. Its realistic dialogue and intense atmosphere make it a standout in the genre.

4. The Big Short (2015)

Based on Michael Lewis's best-selling book, The Big Short chronicles the events leading up to the 2008 financial crisis through the eyes of several key players who foresaw the collapse of the housing market. Directed by Adam McKay, the film features an ensemble cast that includes Christian Bale, Steve Carell, Ryan Gosling, and Brad Pitt.

The film skillfully combines humor with a serious critique of the financial system, using creative storytelling techniques to explain complex financial instruments. It educates viewers about the causes of the crisis while keeping them entertained, making it one of the most insightful films about finance in recent years.

5. Boiler Room (2000)

In Boiler Room, Giovanni Ribisi stars as a young man who takes a job at a shady brokerage firm that engages in high-pressure sales tactics and dubious practices. The film explores themes of ambition, deception, and the moral implications of pursuing wealth at any cost.

Boiler Room provides a compelling look at the world of penny stocks and the unethical practices that can arise in the pursuit of quick profits. It’s an engaging film that offers both suspense and an exploration of the darker side of the stock market.

6. Trading Places (1983)

A classic comedy directed by John Landis, Trading Places stars Eddie Murphy and Dan Aykroyd as two men from opposite sides of the socioeconomic spectrum whose lives become intertwined due to a bet made by two wealthy brokers. The film cleverly critiques the disparities in wealth and opportunity while providing a humorous look at the stock market.

While primarily a comedy, Trading Places also includes insightful commentary on the financial industry, showcasing the unpredictability of markets and how fortunes can change in an instant.

7. Inside Job (2010)

For those seeking a documentary perspective, Inside Job provides an in-depth examination of the factors that led to the 2008 financial crisis. Narrated by Matt Damon, the film features interviews with financial insiders, politicians, and economists, offering insights into the systemic corruption that fueled the crisis.

Inside Job serves as both an educational resource and a cautionary tale about the vulnerabilities within the financial system. It’s a must-watch for anyone looking to understand the complexities of modern finance and the consequences of unchecked greed.

8. Too Big to Fail (2011)

Based on Andrew Ross Sorkin’s book, Too Big to Fail dramatizes the events surrounding the 2008 financial crisis and the efforts of key players in the government and financial institutions to stabilize the economy. The film stars William Hurt as former Treasury Secretary Henry Paulson and features a strong supporting cast.

The film provides a behind-the-scenes look at the decisions made during the crisis, highlighting the tension and urgency of the situation. It’s an informative and engaging portrayal of one of the most significant financial events in recent history.

9. Enron: The Smartest Guys in the Room (2005)

This documentary delves into the rise and fall of Enron, once one of the most successful companies in America. Enron: The Smartest Guys in the Room examines the corporate fraud that led to its collapse, showcasing the greed and deception at the heart of the scandal.

Through interviews, archival footage, and investigative journalism, the film reveals the catastrophic impact of Enron’s practices on employees and investors. It’s a powerful cautionary tale about the dangers of corporate greed and the need for transparency in business.

10. Wall Street: Money Never Sleeps (2010)

The sequel to the original Wall Street, Wall Street: Money Never Sleeps reunites director Oliver Stone with Michael Douglas, who reprises his role as Gordon Gekko. The film explores the aftermath of the 2008 financial crisis and the evolving dynamics of the financial world.

With themes of redemption and the consequences of past actions, the film provides a modern take on the challenges of Wall Street. It addresses the complexities of the financial landscape while delivering engaging performances from its cast.

Conclusion

Whether you’re a finance enthusiast or just looking for an entertaining story, these stock market movies offer a wide range of perspectives on the world of finance. From dramatic tales of ambition and corruption to insightful documentaries exposing systemic issues, these films are both engaging and thought-provoking. They remind us of the power of the stock market, the impact of individual choices, and the importance of ethics in business. So grab some popcorn and enjoy a cinematic journey through the highs and lows of the financial world!

To stay updated on all economic events of today, please check out our Economic calendar

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