Fed cut boosts stocks, sparks inflation concerns
Thursday, September 20, 2007
GLOBAL equities rallied yesterday after an aggressive US rate cut allayed fears of a US recession but left bond investors worried that the Federal Reserve may be shying away from its vigilance on inflation.
The FTSEurofirst 300 index rallied more than two per cent and US stock futures pointed to an upbeat Wall Street open after US shares jumped the most in four years on Tuesday.
Yield spreads between emerging market bonds and US Treasuries fell below 200 basis points for the first time since early August as appetite for risk improved.
US core inflation rose 0.2 per cent in August, in line with expectations but investors remain cautious about whether the US central bank is getting ahead of itself in its attempt to shield the world's largest economy from a housing slump and recent credit troubles. Such fears kept US Treasury prices under pressure and 10-year US bond yields up at 4.50 per cent.
The dollar struck a 15-year low against a basket of currencies after the Fed rate cut eroded the yield appeal of the US currency. The weakness of US dollar sent gold prices on their way to 28-year highs.
The question for investors now is whether the Federal Reserve's bigger-than-expected 50 basis point rate cut is merely a relief measure for markets grappling with a liquidity squeeze or the beginning of a new monetary strategy.
"Assuming that the FOMC has not given in to market pressures to bail out banks and investors, yesterday's federal funds target rate cut by 50 bps to 4.75 per cent suggests that the Fed's outlook for the real economy has deteriorated severely," said Philip Marey, economist at Rabobank.
"Although the heavy rate cut may boost market confidence in the short run it won't solve the problem of asymmetric information that underlies the liquidity crunch."
Fed fund rates are discounting at least another 25 basis point cut by the end of the year and a Reuters poll taken after the rate decision showed 12 out of 18 primary dealers expect a quarter-point rate cut in October.
Some in the market remained sceptical on the prospect for stocks, and disappointing third-quarter results from Morgan Stanley served as a reminder that equities weren't out of the woods just yet.
"This might mean an early Christmas for markets but could turn out to be a short one," said an equities trader.
"The Fed's main aim was to help sentiment and calm the market and it certainly looks to have done that. The Fed normally doesn't cut aggressively. So, the flip side is there might be something sinister under the surface and some might view this negatively."
Gold hit a new peak yesterday and is poised to scale 28-year highs on safe-haven buying and a sharp drop in the US dollar.
Other precious metals also firmed, with platinum rising to its highest in nearly eight weeks, silver hitting a six-week peak and palladium touching its best level in almost a week.
Spot gold touched US$726 an ounce, its loftiest level since May 2006, before easing to US$723.35/724.05 by 1006 GMT.
Reuters
The FTSEurofirst 300 index rallied more than two per cent and US stock futures pointed to an upbeat Wall Street open after US shares jumped the most in four years on Tuesday.
Yield spreads between emerging market bonds and US Treasuries fell below 200 basis points for the first time since early August as appetite for risk improved.
US core inflation rose 0.2 per cent in August, in line with expectations but investors remain cautious about whether the US central bank is getting ahead of itself in its attempt to shield the world's largest economy from a housing slump and recent credit troubles. Such fears kept US Treasury prices under pressure and 10-year US bond yields up at 4.50 per cent.
The dollar struck a 15-year low against a basket of currencies after the Fed rate cut eroded the yield appeal of the US currency. The weakness of US dollar sent gold prices on their way to 28-year highs.
The question for investors now is whether the Federal Reserve's bigger-than-expected 50 basis point rate cut is merely a relief measure for markets grappling with a liquidity squeeze or the beginning of a new monetary strategy.
"Assuming that the FOMC has not given in to market pressures to bail out banks and investors, yesterday's federal funds target rate cut by 50 bps to 4.75 per cent suggests that the Fed's outlook for the real economy has deteriorated severely," said Philip Marey, economist at Rabobank.
"Although the heavy rate cut may boost market confidence in the short run it won't solve the problem of asymmetric information that underlies the liquidity crunch."
Fed fund rates are discounting at least another 25 basis point cut by the end of the year and a Reuters poll taken after the rate decision showed 12 out of 18 primary dealers expect a quarter-point rate cut in October.
Some in the market remained sceptical on the prospect for stocks, and disappointing third-quarter results from Morgan Stanley served as a reminder that equities weren't out of the woods just yet.
"This might mean an early Christmas for markets but could turn out to be a short one," said an equities trader.
"The Fed's main aim was to help sentiment and calm the market and it certainly looks to have done that. The Fed normally doesn't cut aggressively. So, the flip side is there might be something sinister under the surface and some might view this negatively."
Gold hit a new peak yesterday and is poised to scale 28-year highs on safe-haven buying and a sharp drop in the US dollar.
Other precious metals also firmed, with platinum rising to its highest in nearly eight weeks, silver hitting a six-week peak and palladium touching its best level in almost a week.
Spot gold touched US$726 an ounce, its loftiest level since May 2006, before easing to US$723.35/724.05 by 1006 GMT.
Reuters
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