Author: Jinze

Last night, the market experienced a significant pullback, primarily due to investor concerns over the Federal Reserve possibly shifting towards a more “hawkish” policy stance. This sentiment triggered widespread sell-offs, particularly in growth and tech stocks. Despite the market’s sharp reaction, I believe it’s essential to delve deeper into the current macroeconomic environment and policy dynamics, avoiding being misled by short-term fluctuations.

Policy Interpretation: Hawkish Appearance vs. Underlying Logic

The Federal Reserve’s signals have mainly focused on two points: “slowing the pace of rate cuts” and becoming “more data-dependent.” Powell clearly stated that the Fed would remain highly sensitive to future economic data, and while the rate cuts expected in 2025 might include three rate reductions, there is also the possibility of a pause or a change in pace. The dot plot shows three rate cuts, which is slightly more conservative than previous market expectations, leading the market to believe that the Fed is trying to convey a hawkish tone, while the actual rate cuts might end up being fewer than three.

However, from the broader context, this “hawkishness” is more of a superficial appearance:

• Economic Fundamentals Remain Resilient: The U.S. GDP growth rate reached 3.1% (according to the Atlanta Fed GDPNow forecast), and the economic surprise index remains at a moderately high level, indicating that economic activity is still robust.

• Labor Market Showing Signs of Weakening: The unemployment rate has increased by 0.7% since June 2023, and the tightness in the labor market has eased somewhat (according to the Federal Reserve’s labor market tightness indicator).

• Core Inflation Showing Stabilization: Core PCE inflation has remained steady around 3%. While it hasn’t dropped sharply, there’s no significant upward pressure either.

Additional Reasons Behind Last Night’s Market Drop

The market’s decline was not solely driven by interpretations of the Fed’s policy, but also related to the following factors:

• Impact of Rising Secondary Market Rates: The financial conditions index (FCI) slightly increased last week, and U.S. Treasury yields returned to six-month highs. Mortgage rates have risen by 1.5% since September, which has suppressed housing demand. However, the risk asset market largely ignored these factors when Trump won the election.

• Technical Market Factors: Although the S&P 500 index is near historical highs, only 45% of its constituent stocks are above their 50-day moving averages, indicating a lack of breadth in the market. This “narrow market” phenomenon has intensified individual stock volatility.

• Changes in Fund Flows: Last night’s trading volume surged (1.6 billion shares traded, well above the yearly average of 1.2 billion), reflecting risk-averse behavior from institutional investors and the urgency of year-end portfolio rebalancing (funds generally reduce holdings in stocks that have risen the most).

In conclusion, while the market’s reaction to the FOMC meeting was sharp, it may have been an overreaction. A closer look at the underlying economic fundamentals and policy signals suggests that the situation is more nuanced.

Is the Market Panic Justified?

I believe the market panic last night was somewhat of an overreaction. While there are fewer positive news items toward the end of the year, it is reasonable for overbought assets to experience a pullback in the face of unexpected negative variables. In reality, even if the Federal Reserve is “hawkish,” it is more likely to signal a “gradual rate cut” through the dot plot rather than shifting toward tightening monetary policy, which is still a long way off. Currently, the U.S. economy shows some resilience, but it’s not experiencing a free fall. This economic performance is strong enough to support the market’s fundamentals.

At the same time, the market sell-off is more a reflection of uncertainty about the future and misinterpretations of policy, rather than a deterioration of the fundamentals. For example, although financial conditions tightened in the past week, they are still in a relatively loose range. The market is overly focused on short-term changes in the dot plot, while neglecting the importance of long-term economic trends, which is something to be cautious about.

Divergence in Market Views on Bullish vs. Bearish Sentiment

Market participants are clearly divided in their interpretations of interest rate policy, with each side offering strong justifications for their views:

Dovish Viewpoints:

• Rising credit card delinquency rates indicate growing financial pressure on consumers.

• The potential liquidity risks from maturing commercial real estate (CRE) debt.

• Falling commodity prices and the risk of deflation in the Chinese economy could put downward pressure on the global economy.

Hawkish Viewpoints:

• Real economic growth remains strong, with no immediate signs of recession.

• Core inflation remains stable at 3%, and high fiscal deficits could exacerbate long-term inflationary pressures.

• If financial conditions gradually loosen, it may reignite inflation.

Risks and Opportunities

I believe the current market downturn offers investors a moment to reassess. From a risk perspective, there are indeed several challenges that could arise, such as the possibility of a rebound in inflation, the risks posed by high fiscal deficits, potential disruptions from significant layoffs at DOGE, and the possible market reaction after Trump’s formal inauguration in January. However, it’s important to consider the time horizons of these impacts — some of the first two risks are long-term issues that will only be validated by months of data, while the latter two are more short-term, and may not even materialize.

From an opportunity perspective, the market’s decline also presents opportunities in certain risk assets:

• For example, biotechnology and re-industrialization stocks, with their longer duration characteristics, are likely to benefit in a relatively low-interest-rate environment.

• Additionally, the medium- to long-term growth logic of growth stocks hasn’t changed due to short-term volatility.

Fixed Income: After the 10Y Treasury yield exceeds 4.5%, there is limited room for further upward movement.

Digital Currency: While the buying from MSTR and U.S. institutions has temporarily slowed, the momentum should return after January.

Investors can look for opportunities to build positions amid the market volatility.

My View

In conclusion, I believe the current macroeconomic environment does not support large-scale de-risking. The primary drivers for U.S. stocks are more related to corporate fundamentals and the economy, rather than interest rates. For example, NVIDIA has recently seen a pullback, but its fundamentals remain strong, particularly with the long-term growth in data centers and artificial intelligence demand. Additionally, major events like the 2025 CES, earnings reports, and the GPU Technology Conference (GTC) will continue to act as catalysts for the company.

In the long run, the Federal Reserve’s policy path will likely be gradual and cautious. In the face of short-term volatility, investors need to stay rational and focus on economic fundamentals, rather than being swayed by the dot plot or market sentiment.

While risks do exist, as Powell has previously pointed out, “The sustained change in financial conditions is the core focus of policy.” Therefore, I will maintain a moderately optimistic stance on risk assets and seek long-term value amid short-term fluctuations.

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