Stocks rally amid expectation that the Fed will cut rates

Tokyo — A gauge of global stock markets rose on Thursday while the dollar dropped and global bond yields plunged, with the 10-year US yield falling below 2%, after the Federal Reserve signalled possible interest rate cuts later in 2019.

MSCI’s broadest index of Asia-Pacific shares outside Japan rose 0.6% while Japan’s Nikkei gained 0.6%.

The MSCI ACWI, which incorporates readings of 49 equity markets across the world, gained 0.3% on Thursday. It has recovered a large part of its 6.7% losses made after US President Donald Trump threatened new tariffs on all of China’s imports in May.

Signs that China and the US are returning to the negotiating table after a six-week hiatus also bolstered risk sentiment.

The rally in stocks comes as a host of Asian central banks are scheduled to hold policy meetings later in the day, with most expected to flag moves toward looser monetary settings.

The Bank of Japan kept monetary policy steady on Thursday, preferring to save its dwindling ammunition, but speculation is rising it may further loosen its ultra-easy stance later this year.

“As the Fed’s policy is turning, central banks in many other countries will face pressure, including those from markets, to ease their policy,” said Hiroshi Yokotani, portfolio strategist at State Street Global Advisors.

On Wall Street, the S&P 500 gained 0.3% to 2,926, just 19 points off its record closing high hit on April 30.

The US Federal Reserve on Wednesday signalled interest rate cuts beginning as early as July, saying it is ready to battle growing global and domestic economic risks as it took stock of rising trade tensions and growing concerns about weak inflation.

The bulk of Fed policymakers slashed their rate outlook for the rest of the year by about half a percentage point, and Fed chair Jerome Powell said others agree the case for lower rates is building.

Many investors viewed the overall tone as more dovish than their expectations, sending the 10-year US Treasuries yield to as low as 1.974%, its lowest level since November 2016. It was as high as 2.8% in January.

Japanese 10-year bond yields slipped 1.5 basis points to minus 0.155%, matching three-year lows while Australian yield hit a record low below 1.3%.

US money market derivatives, such as Fed funds futures and overnight indexed swaps, are fully pricing in a rate cut of 25 basis points at the next policy review on July 30-31, with about one-third chance of a bigger 50 basis point cut.

A total of 75 basis point reduction is priced in by the end of 2019.

Nervous investors 

However, such aggressive rate cuts when the stock prices are so close to record peaks would be rare, if not unprecedented, making some investors nervous about whether the Fed may be overreacting.

“It seems the Fed is getting ahead of risk and doing whatever it takes to avoid downside implications due to a potential slowdown,” said Robin Anderson, senior global economist at Principal Global Investors in Des Moines, Iowa in the US. “However, in the event inflation picks backs up, I’m apprehensive the Fed could be behind the curve if rates do in fact get cut too soon.”

Many investors think rate cut expectations could be rolled back if Washington and Beijing make some headway in their talks.

“While we expect ‘insurance’ rate cuts this year, we think the timing and magnitude of any policy easing is uncertain and somewhat dependent on US-China trade relations,” said Andrew Wilson, CEO of Goldman Sachs Asset Management for Europe, the Middle East and Africa, and global head of fixed income.

US trade representative Robert Lighthizer said he will confer with his Chinese counterpart Vice-Premier Liu He before next week’s meeting between President Donald Trump and Chinese President Xi Jinping in Osaka.

The Chinese yuan has recovered over the past couple of days on hopes of US-China talks next week on the sideline of the Group of 20 summit.

The offshore yuan traded flat at 6.8916/$, after having hit a five-week high of 6.8835/$ earlier.

The euro rose 0.3% to $1.1254 after the Fed’s dovish signals undermined the dollar’s yield attraction.

The dollar fell 0.5% on the yen to hit a five-month low of ¥107.57 extending losses after the Bank of Japan stood pat on policy.

The British pound rebounded 0.25% to $1.2674 from Tuesday’s five and a half month low of $1.2507 as investors trimmed their short bets before the Bank of England’s policy meeting on Thursday where it may strike a more hawkish tone than those of its peers.

Gold jumped above its long-held resistance around $1,350/oz to hit its highest level since September 2013, rising to as high as $1,392.3/oz. It last stood at $1,362.20/oz, up 1.4%.

Oil prices held firm, underpinned by a larger-than-expected decline in US crude inventories.

US West Texas Intermediate crude futures rose 1.1% to $54.33 a barrel.

Members of the Organisation of the Petroleum Exporting Countries (Opec) agreed to meet on July 1, followed by a meeting with non-Opec allies on July 2, after weeks of wrangling over dates.

Oil producers will discuss whether to extend a deal on cutting 1.2-million barrels per day of production that runs out in June.

Reuters