Hopes for Fed Rate Cuts Fall Short Again: Which Stocks Could Suffer the Most?

Unlike the relatively calm market reaction following the release of non-farm payroll data last Friday, the hotter-than-expected inflation data released this Wednesday dealt a fatal blow to market sentiment. The traders did not regain confidence after the sell-off and all three major US stock indices closed with losses. Additionally, multi-term U.S. Treasury yields spiked while the previously hot commodity gold retreated from its historic highs.

As more and more economic, employment, and inflation data continue to beat expectations, some investors are expressing concern over the impact of fewer rate cuts on asset pricing. In other words, while the market has adjusted to the fact that rate cuts in 2024 will likely be less aggressive than previously anticipated, the revision to expectations has not prevented the stock market from enjoying a strong start to the year. But from now on, investors may need to be cautious and assess how the reduced rate cuts will ultimately affect the stock market, particularly as AI hype begins to diminish.

The March Consumer Price Index (CPI) report released by the US Bureau of Labor Statistics revealed that the year-on-year increase in CPI was 3.5%, surpassing both the market consensus of 3.4% and the previous month's reading of 3.2%. The Core CPI, which excludes food and energy costs, has exceeded economists' expectations for three consecutive months - a crucial inflation indicator closely monitored by the Federal Reserve.

The data further confirms that the sticky inflation trend continues, and the Fed's progress in curbing inflation may be stagnating. As a result, the Fed may delay its rate-cutting plan and maintain interest rates higher for longer. This report not only closes the door to a rate cut in June but also poses considerable obstacles to the likelihood of a July rate cut. As indicated by the CME FedWatch Tool, traders are currently estimating the probability of a rate cut in July at a mere 42.71%, less than 50%. The timing of the first rate cut has been postponed from July to September.

Goldman Sachs Asset Management's Lindsay Rosner warns that the rates market must seriously consider the possibility of higher-for-longer, at the very least persisting through the Summer and possibly stretching through the end of the year. While this report may not have entirely shaken the Fed's confidence, it has certainly cast a shadow over it.

Former Treasury Secretary Lawrence Summers even suggests that the Fed may need to contemplate raising rates once again due to the continuing presence of inflation. Summers warns, "We cannot ignore the possibility that the next rate adjustment may be upwards rather than downwards."

In fact, the market reaction to last Friday's non-farm payroll data was not too dramatic, with all three major indices closing higher on the day. On the one hand, the market may not have fully believed in this non-farm report, with some suggesting that the quality of the data is declining and that part-time employment may be inflating the employment figures. Additionally, the "political task" of the election year may also be causing interference in the data. On the other hand, some believe that the current focus of the Fed is more on inflation, and the importance of employment has decreased.

Morgan Stanley's portfolio manager, Priya Misra, foresaw at the time that if later CPI and PCE reports show signs of a rebound in service sector inflation, the Fed's 'patience' could be exhausted.

Not as optimistic as last week, the market sentiment took a sharp turn for the worse after the release of CPI data yesterday, with major stock indices experiencing a significant pullback. This indicates that the time for risk assets to ignore interest rate trends has passed, and it is now time to pay attention to interest rates. In addition, this Wednesday saw a greater increase in US bond yields than after last week's non-farm data release, while commodity prices, such as gold and copper, have also turned lower.

As a typical interest rate-sensitive industry, home builders have already felt the pressure of high interest rates. According to the latest data from the Mortgage Bankers Association (MBA), the contract interest rate for 30-year fixed-rate mortgages in the United States rose by 10 basis points to 7.01% in the week ending April 5, the first increase in a month. As a result, the MBA's purchase mortgage application index fell 4.7% to its lowest level in a month.

In addition, the leading indicator of the real estate market, new home sales, unexpectedly fell by 0.3% month-on-month in February, the first decline in three months, according to data released by the US Department of Commerce at the end of March. This was a significant deviation from market expectations of a 2.1% increase. The mortgage rate increased from 6.8% to 7.0% in February, which may have driven some buyers out of the market. Moreover, due to ample housing supply, the median sales price of new homes in February was $400,500, a year-on-year decrease of 7.6%, marking the sixth consecutive month of decline.

In addition to home builders, other interest rate-sensitive sectors with high growth potential, such as biotechnology, as well as small-cap stocks with higher financing costs and weaker profitability, may also face short-term pressure.