Another Fed Rate Cut... Where Now?

It looks like the Fed has gone for the classic Greenspan 3 and done policy. Yes that's right, yesterday the Federal Reserve cut rates again - the third time in three meetings.

The reasons for the cut this time were the same as the previous two cuts; the economy is weakening, inflation low, and the macro outlook poor (albeit, it does look like there could be a partial resolution to the trade war in sight).

This wasn't surprising. The market had priced a 98% chance of a rate cut yesterday and therefore it was a near certainty. However, what everyone was waiting for was the wording of the new policy outlook. The Fed will no longer try to "sustain the expansion" and will instead act as "appropriate".

It was this shift which the market had largely expected.

And yet, the S&P500 soared to a record high once more. So why? Well, the labour market in the US remains resilient, there was no indication whatsoever of any rate hikes within the next couple of years, and the stance about future cuts was slightly more dovish than initially expected.

I have to confess that my initial Fed policy predictions a few months ago where totally wrong. My prediction had been for two rate cuts and then the economy to have sufficient fuel to remain in orbit. But, I did not forecast such an aggressive increase in the trade war, and naturally this adjusted Fed policy expectations.

So, the all important question, where does the economy go now?

Well, assuming the trade war reaches a partial resolution the S&P500 can be expected to continue to climb. Algorithms are certainly pushing up the index on the hopes of a trade deal and everything emanating from the White House seems to suggest a resolution.

However, I've just heard on the radio that Chinese officials are warning they will not budge on the thorniest of issues and they worry about the longevity of the trade deal with Trump at the helm.

So perhaps the outlook isn't improving quite as much as we think.

Meanwhile:

I recently posted an article about the repo markets and why they were malfunctioning. This story has dropped from the news but I thought I would stress this turmoil is not over.

In fact, the Fed is now taking over $120 billion of securities a night to calm overnight repo markets.

My every instinct tells me that this cannot be sustained and this market will again spike as the Fed funds rate cut yesterday will increase the demand for overnight liquidity, and thus push up prices.

The Bond Market:

There has been an easing of pressures in the bond market over the last couple of weeks and the yield on a 10-year treasury has started to edge back upwards. It is my central thesis that this rate will not cross 2% any time soon, and consequently, the equity market has further to run.

Now that some of the macro risks have materially decreased, I would anticipate further inflows of money into stocks - pushing the S&P500 through record highs. I would similarly expect flows into dividend stocks such as the insurance industry and healthcare - pushing these indexes higher. This is because the bond market does not provide sufficient returns for investors (at least in the government space).

Finally:

AAPL has soared to all-time highs in response to higher iPhone demand. I don't wish to boast, but I called it months ago. It was clear that the surging demand for Apple Watches, AirPods and other technologies would eventually force iPhone users to upgrade - the sweet price point of the iPhone 11 was all it took for a massive uptake in iPhones.

Is AAPL over-valued? I'm not sure; but nearly.


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