FOMC Review: How Could Dovish Stance Reshape Pricing Logic?

Wednesday's FOMC meeting and Powell's dovish speech sent stock and bond markets into a frenzy. The decline in risk-free rates confirms the Goldilocks period, allowing many industries that have been suppressed by high interest rates to recover, and may change the pricing logic of many assets.

■ How Low Treasury Yields Can Go？

The benchmark 10-year yield slipped a further five basis points Thursday to as low as 3.97%, down from a peak of 5.02% set in late October.

Could yields be even lower in 2024? Jeffrey Gundlach at DoubleLine Capital says US 10-year yields will fall toward the low 3% range. Former Pimco bond king Bill Gross dismissed such a prediction, saying the yield is already about where it should be at just on 4%.

Although the yield curve remains inverted, with two-year yields higher than those of the 10-year bond, the spread has narrowed by 16 basis points in the last two days, leaving the spread at only 37 basis points.

Bill Gross said the yield curve should become un-inverted again. Gross has said he expects that to mostly occur through a drop in shorter-maturity yields. His view that longer-maturity Treasury yields are unlikely to fall much further is shared by the majority of the 190 respondents to an MLIV Pulse survey conducted after the Fed decision. The 10-year yield is set to end next year at 3.98%, according to the mean response to the survey.

■ Could lower rates be a relief for US consumption?

High interest rates have constrained credit card consumption in the United States. The average annual percentage rate for retail credit cards reached 28.93% in October, up from 26.72% last year, according to Bankrate. Many holiday shoppers could be in for even more financial strain if the high interest rate environment persists. About 52% of Americans incurred credit card debt during holiday shopping last year, and as of mid-August, nearly a third have yet to pay off their balances, according to NerdWallet.

When it comes to cars, Americans owe $1.595 trillion in auto loan debt, according to the Federal Reserve Bank of New York. Forty-four percent of Americans rely on a car loan to finance a vehicle purchase, and financing is used to purchase almost 80% of new car. Lowering interest rates may bring some retreating consumers back into the car market.

■ What's the implication for real estate?

Mortgage costs have been a challenge for all real estate asset classes since the Fed turned hawkish in 2021. CBRE’s analysts noted once interest rates start to decline, real estate will become more attractive since its yields have been up and close to the pre-pandemic era.

Relative stocks and Reits rose across different property types after Powell released the dovish signal. Homebuilder company D.R. Horton’s shares rose by 3.13%, and logistics reits Prologis (PLD) closed up 5.87% on Wednesday.

■ How will it impact the foreign exchange rate?

The dollar dropped to a fresh four-month low after the Federal Reserve's latest economic projections indicated lower borrowing costs are coming in 2024. The focus now shifts to a parade of central bank decisions, including the European Central Bank and the Bank of England (BoE), etc.

The euro rose 0.25% to $1.09015, while sterling last traded at $1.2642, up 0.19% on the day. The Japanese yen continued to strengthen in the wake of the greenback's tumble, climbing to its highest since July 31 at 140.95 yen per dollar. It was last up around 1% at 141.46 yen. The Bank of Japan also meets next week. The yen has been volatile on speculation that the BOJ is drawing close to ending its negative rate policy.

The Norwegian central bank is considered to be the only bank that could potentially raise rates. There is also a risk the SNB could dial back its support for the Swiss franc in currency markets. Fed’s move may boost the non-US market, since other currencies have been under pressure for two years.

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