The US Federal Reserve is widely expected to announce its first interest rate cut in over four years at the conclusion of its policy meeting on Wednesday, experts said.
This move comes as inflation eases towards the central bank’s 2 per cent target and the labour market shows signs of cooling.
Fed Chair Jerome Powell and other senior officials have recently signalled the likelihood of a rate cut, setting the stage for a significant shift in monetary policy. The two-day meeting, which will begin tonight (10:00 PM UAE) and conclude on Thursday, is anticipated to result in a decision that will reverberate through the economy, affecting borrowing costs on everything from mortgages to credit cards.
Currently, the benchmark lending rate stands at a 23-year high between 5.25 per cent and 5.50 per cent. While a rate cut is almost certain, the magnitude remains a subject of debate among analysts and investors. Some anticipate a conservative quarter-point reduction, while others predict a more aggressive half-point cut.
According to CME Group data, futures traders on Tuesday saw a 63 per cent chance of a half-point cut and a 37 per cent chance of a quarter-point reduction. This decision will be closely watched by markets globally, as it signals the Fed’s confidence in its progress against inflation that hit four-decade highs in 2022.
Economic indicators and market reactions
The potential rate cut comes against a backdrop of mixed economic signals. US retail sales unexpectedly rose 0.1 per cent in August, suggesting resilience in consumer spending. However, this data point alone is unlikely to deter the Fed from its expected course of action.
“US dollar has ceased its upward trajectory since the release of US economic data indicating a slowdown in consumer prices. This data has reinforced expectations that the Federal Reserve is likely to begin cutting interest rates at its September meeting,” said Mohamed Hashad, Chief Market Strategist at Noor Capital.
Hashad further explains that the recent inflation data has “fuelled speculation that the Federal Reserve is likely to start rate cuts in the September meeting as inflation retracement is a good sign for the Fed as it implies that the central bank is nearer to its official target of inflation – 2.00 per cent.”
In the currency markets, the US dollar strengthened against most major currencies on Tuesday, following the retail sales data. This movement reflects market expectations of a less aggressive stance from the Fed.
Investment strategies in a changing rate environment
As the Fed prepares to shift gears, investors and fund managers are swiftly adjusting their strategies to capitalize on the changing economic landscape. Charu Chanana, Head of FX Strategy at Saxo Bank, has provided valuable insights into potential investment opportunities that may arise in this evolving environment.
The housing sector is poised to benefit significantly from lower interest rates, as reduced mortgage costs could reignite demand for homes. Chanana suggested that exchange-traded funds (ETFs) focused on homebuilders, such as the iShares US Home Construction ETF and SPDR S&P Homebuilders ETF, may see increased activity and potential growth in the coming months.
Small-cap companies are another area of interest, according to Chanana. These smaller enterprises often thrive in a falling rate environment due to reduced financing costs, which can boost their bottom lines. Investors looking to tap into this potential may consider ETFs like the iShares Russell 2000 ETF or the Vanguard Small-Cap ETF, both of which offer broad exposure to the small-cap sector.
Despite the potential for economic growth, lingering recession concerns have led some investors to seek out more defensive plays. Chanana pointed to consumer staples and utilities as attractive options for those prioritising stability in their portfolios. The Consumer Staples Select Sector SPDR Fund and Utilities Select Sector SPDR Fund were also highlighted as potential vehicles for investors looking to add a defensive element to their investment strategy.
As interest rates fall, income-focused investments may become increasingly appealing. Real Estate Investment Trusts (REITs) and high-dividend stocks are likely to garner more attention from yield-seeking investors. Chanana suggested the Vanguard Real Estate ETF and iShares Select Dividend ETF as options for those looking to boost their income streams in a low-rate environment.
Lastly, Chanana addressed the potential impact on commodities and precious metals. A weaker dollar, often a consequence of rate cuts, can drive up commodity prices. In light of this, SPDR Gold Shares and iShares Silver Trust are mentioned as potential hedges against economic uncertainty and inflation risks.
However, as with any investment strategy, thorough research and consideration of individual risk tolerance remain paramount in making informed financial decisions.
The Fed’s decision will have far-reaching consequences beyond US borders. The European Central Bank (ECB) recently cut its own interest rates, and the Bank of Japan is expected to maintain its current policy stance in its upcoming meeting.
“Markets have become increasingly optimistic as the Fed edges closer to normalising monetary policy through interest rate cuts, which improved risk appetite and added more downside pressure to USD price action throughout last week’s trading,” added Hashad from Noor Capital.
Follow us on
