Inflation worries resurface, altering the outlook for Fed rate cuts

In the early morning of December 19, Beijing time, the Federal Reserve concluded its two-day monetary policy meeting and announced a 25 basis point reduction in the target range for the federal funds rate to between 4.25% and 4.50%, and predicted that the rate cut in 2025 may narrow to 50 basis points. This is the Fed's third consecutive rate cut since September this year.

Industry insiders said that judging from the Fed's statement on the interest rate decision, the dot plot, and Chairman Powell's press conference remarks, the Fed will be more cautious in its rate cut decisions from now on, and may announce a pause in rate cuts at the next meeting. From the perspective of asset allocation, the pressure for short-term adjustments in US stocks is increasing, and volatility is strengthening; gold may also be under pressure in the short term, but it still has investment value.

● Staff reporter Zhou Lulu

Hawkish rate cut sends cautious signal

The Fed's statement shows that members of the Federal Open Market Committee clearly cast dissenting votes at this meeting. Industry insiders said that the Fed's hawkish rate cut sends a cautious signal about future monetary policy decisions.

In a statement released on the day, the Fed said that the risks to achieving its employment and inflation goals are roughly balanced, but the outlook for the US economy remains uncertain. In assessing the appropriate stance of monetary policy, the Federal Open Market Committee will continue to monitor incoming information for its implications for the economic outlook. If risks emerge that could impede the achievement of its goals, the Committee will be prepared to adjust the stance of monetary policy as appropriate.

Zhong Zhengsheng, chief economist at Ping An Securities, believes that the rate cut at this meeting is quite controversial. However, since the market had fully anticipated this rate cut before the meeting, the Fed may not want to create a hawkish surprise, so it chose a hawkish rate cut. From now on, the Fed will be more cautious in its rate cut decisions.

Lu Zhe, chief economist at Dongwu Securities, said that behind the caution, the Fed is beginning to assess the upward risks to inflation brought about by US immigration, tariffs, and tax cuts.

Chen Jiali, senior macro analyst at GF Securities, said that the Fed's monetary policy decisions still follow the data-dependent rule, and short-term changes in inflation data and the subsequent impact of tariff and immigration policies on the decision results are significant.

"The Fed has obvious concerns about US inflation in 2025." Cui Rong, chief analyst of overseas research at Citic Securities, said that on the issue of inflation, Powell reviewed the progress that has been made on inflation, saying that it may take another year or two to reach the 2% inflation target, showing his lack of confidence in the inflation outlook, and rarely mentioned that other countries are also facing inflation problems. The time node for achieving the Fed's 2% inflation target may be postponed from 2026 to 2027.

Institutions lower expectations for rate cuts next year

According to the Fed's economic outlook, 10 of the 19 members of the Federal Open Market Committee believe that the target range for the federal funds rate will fall to between 3.75% and 4% by the end of 2025. Based on a 25 basis point rate cut each time, the Fed may only cut rates twice in 2025, a significant slowdown from the four rate cuts predicted in September this year.

Major institutions have also lowered their expectations for Fed rate cuts next year in their latest views.

Liang Zhonghua, chief macro analyst at Haitong Securities, said that the Fed will carefully assess future data, the evolving outlook, and the balance of risks, adding a statement on "degree and timing," which means that the Fed's subsequent rate cut pace may slow down or be put on hold.

"There may still be 2-3 rate cuts in 2025." Zhong Zhengsheng believes that against the backdrop of a mild economic downturn in the United States, the baseline scenario for US inflation remains relatively stable. As time goes on, the Fed's neutral interest rate may still be around 3%, and it is still appropriate for the Fed to maintain interest rates above 3.5%. If the US job market unexpectedly cools, it may also trigger the Fed to cut rates.

Cheng Shi, chief economist at ICBC International, predicts that the Fed's rate cuts in 2025 will be in the range of 50 to 75 basis points, that is, 2-3 rate cuts, and the pace of further rate cuts will depend on the performance of US economic data and the Fed's policy assessment results. Considering a series of comprehensive factors, if US economic data does not show a sharp deterioration in the labor market, it is possible for the Fed to pause rate cuts in January 2025.

Regarding the specific path of the Fed's monetary policy in 2025, Cui Rong judges that the Fed will most likely announce a pause in rate cuts and observe at the next meeting, or it may need to wait until the March meeting to give a clearer indication.

Lu Zhe predicts that the Fed's monetary policy in 2025 may be loose first and then tight, with rate cuts of 25 basis points each in March and June, and warns of the risk of no rate cuts in the second half of 2025.

Pressure for US stock adjustment increases

After the Fed's December interest rate decision was announced, there were significant fluctuations in overseas financial markets, with US stocks and gold experiencing significant dives, while the US dollar and US Treasury yields rose.

In this regard, Xiong Yuan, chief economist at Guosheng Securities, believes that considering the low probability of the Fed not cutting rates at all in 2025, the market's current rate cut expectations are close to bottoming out. If the performance of subsequent US economic and inflation data does not significantly exceed expectations, there is a possibility of upward revisions in rate cut expectations, so the time and magnitude of this round of asset price adjustments may be limited.

Changes in Fed rate cut expectations: How will the logic of asset allocation play out?

Zhong Zhengsheng said that looking ahead to the first quarter of 2025, overseas markets may temporarily trade on the "tightening" logic. US Treasury yields and the US dollar index are at relatively high levels, and US stocks are under increasing pressure for short-term adjustments, and gold may also be under pressure in the short term. After the second quarter, the timing for the Fed to cut rates again may gradually emerge, leading to a moderation or even reversal of sentiment in overseas markets.

Cui Rong said that in the short term, with unclear guidance from the Fed, the optimistic "holiday trading" sentiment in the US stock market may come to an end, and volatility will increase.

From an allocation perspective, Lu Zhe judges that the current 10-year US Treasury bonds and gold, which have already undergone a certain degree of correction, have high cost-effectiveness.