Fed's Number Three Takes Hawkish Stand, What's Behind the Five Consecutive Declines in US Stocks?

　　On Thursday, New York Fed President Williams, known as the “Fed's number three,” and holding a permanent voting seat on the FOMC, delivered a speech. He warned that once data indicated the Fed needed to hike rates to achieve its goals, the Fed would take appropriate action.

Market expectations for rate cuts are declining

　　More and more Fed officials are mentioning “rate hikes.” While Williams emphasized that “rate hikes” were not his baseline expectation, he reiterated that the Fed's monetary policy was in a good position, and rate cuts were not urgent, also stating that rate cuts needed support from economic data.

　　But his latest speech was noticeably more hawkish than earlier comments in the past week, causing US stocks and bonds to fall again. After the stock market closed, Atlanta Fed President Bostic also indicated openness to rate hikes if US inflation rises.

　　After Williams mentioned the possibility of rate hikes, the US Treasury market briefly rebounded but then turned downward, and the S&P 500 followed suit, turning from early gains to losses.

　　Image Source: Wall Street

　　In his speech a few days ago, Williams stated that he did not see the recent US inflation data as a turning point and emphasized the prospect of rate cuts multiple times. This shift in stance occurred after Fed Chairman Powell's public remarks earlier this week. Powell stated this week that lack of further progress on inflation could justify keeping high rates in place for longer.

　　The yield on the two-year US Treasury rose by 5 basis points, approaching 4.99%, hitting a recent high, while the two-year US bond yield briefly touched slightly above 5%, the highest level since November last year. Meanwhile, the yield on the 10-year US Treasury rose by over 5 basis points, reaching 4.653% early Friday morning Beijing time.

　　Pricing in the swaps market indicates an expected cumulative rate cut of 38 basis points at the Fed's December policy meeting, and as of Wednesday's close, this rate cut had reached 43 basis points; the market expects the Fed to implement the first 25-basis-point rate cut of the year at its November policy meeting. The possibility of rate hikes in the market is close to zero, but protective measures against rate hikes are beginning to appear in the interest rate options market.

　　Meanwhile, the S&P and Nasdaq have fallen for the fifth consecutive trading day.

　　With more and more hawkish remarks, the market has gradually accepted lower expectations for rate cuts, while corporate earnings have also become a major driver of stock volatility to some extent.

Corporate earnings become the main driver of stock volatility

　　Following European lithography giant ASML, Taiwan Semiconductor, which released its financial report, also weighed on chip stocks, continuing to drag down the market. The S&P 500 index has seen its longest consecutive decline since October last year, when the Fed turned dovish, fueling expectations of rate cuts this year. Taiwan Semiconductor, the biggest driver of sales, saw AI benchmark NVIDIA erase an initial drop of nearly 2% and turn higher, rebounding from a low in early March after falling into a correction zone.

　　The recent sharp decline in US stocks is somewhat related to the earnings season for corporations, with market concerns deepening as more corporate earnings are released.

　　Analysts believe that from all perspectives, the biggest threat to the current US stock market is not the Fed, but rather corporate earnings growth.

　　Rob Haworth, senior investment strategist at a US bank asset management company, said investors can no longer rely on Fed rate cuts to boost the stock market. Instead, companies may need to meet Wall Street's expectations for earnings growth to sustain the rebound.

US large pension funds are cashing out

　　In an environment where US stocks are overvalued and in a “high-interest-rate environment,” fund managers are scrutinizing whether their exposure to the stock market is worthwhile and adjusting their investment portfolios.

　　On the one hand, with major US stock indices hitting record highs, reducing exposure to US stocks not only locks in existing profits but also current bond yields are sufficient to meet their return requirements. On the other hand, in a high-interest-rate environment where the Fed continues to delay rate cuts, fund managers can get a substantial return of around 5% from risk-free investments (bonds) without taking on more risk.

　　According to Fed data, as of the end of 2023, corporate and state and local government workers' pension funds collectively held about $90 trillion.

　　According to estimates by Goldman Sachs analysts, pension funds will sell $325 billion in stocks this year, higher than $191 billion in 2023. Marcus Frampton, Chief Investment Officer of APFC, said that with rising interest rates, APFC can still get a 5% return from bonds to meet its investment goals, while stocks could lead to losses. Frampton said, “When the stock market is very expensive, bad things can happen.”

Mexico keeps its distance from Chinese EV companies under US pressure

　　According to a Reuters exclusive report on the 18th, the Mexican federal government reportedly took a series of measures under pressure from the United States to distance itself from Chinese electric vehicle manufacturers, including refusing to provide low-cost public land or tax breaks.

　　According to informed sources, the last meeting between senior Mexican officials and a Chinese electric vehicle company took place in January this year. An anonymous source said that Mexican officials made it clear during the meeting that they would no longer provide incentives as they had in the past and would suspend any future talks with Chinese car companies.

　　Image Source: Foreign Media

　　The Mexican President's Office and the Ministry of Economy did not immediately respond to requests for comment. A US Trade Representative's Office official did not specifically respond to questions about pressure, but said that the US-Mexico-Canada Agreement was not intended to provide a “back door” for “China and other countries that might try to enter our markets duty-free.”

　　Reuters reported that as the US move was exposed, a White House spokesperson said President Biden had made it clear that he would prevent Chinese car manufacturers from flooding the market, as this could pose a threat to US national security.