The recent global capital market turmoil continues unabated, with U.S. stocks experiencing a significant plunge at the close. The Nasdaq, which had risen nearly 2%, ended up closing down over 1%. The Dow Jones Industrial Average, which had climbed by 480 points, and the S&P 500, which had risen by 1.73%, also saw substantial declines by the end of the trading day. The market has witnessed significant volatility, with the Japanese stock market plunging as much as 12.4% at one point, triggering a circuit breaker. The following day, after the Bank of Japan stated it would not raise interest rates, the market rebounded by 10%, touching the upper limit of the circuit breaker. These wild swings in the market also indicate that the global capital market is facing significant changes, with increasing divergence between bulls and bears. The VIX index, which reflects market panic sentiment, has also surged recently. The yen carry trade reversal may not be entirely over, but the market has begun to worry about the impact of a potential U.S. economic recession and geopolitical conflict risks.
The lackluster results of the overnight U.S. Treasury auction triggered a late plunge in the market. The significant fluctuations in the peripheral markets have had a certain impact on the short-term trends of the A-share and Hong Kong markets, although the fluctuations have been relatively small. On Wednesday and Thursday, the Shanghai and Shenzhen markets showed a trend of fluctuating rebound, which to some extent indicates that the market's panic sentiment has been greatly alleviated. Deputy Governor of the Bank of Japan, Uchida, stated yesterday that the central bank will not raise interest rates when financial markets are unstable, a statement that is also expected to promote the stabilization and recovery of the Japanese stock market. However, the reversal of the yen carry trade may not have ended, which still poses significant uncertainty for the Japanese stock market.
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On Wednesday local time, the U.S. Department of the Treasury auctioned $42 billion in ten-year Treasury bonds. The winning bid interest rate for this ten-year U.S. Treasury bond auction was 3.96%, which, although significantly lower than the 4.276% on July 10, showed a tail spread of more than three basis points, indicating a weak demand for U.S. debt. Moreover, the bid-to-cover ratio for this ten-year U.S. Treasury bond was only 2.32, the lowest level since December 2022. Following the disclosure of the above results, the yield on the ten-year U.S. Treasury bond rebounded sharply, triggering a significant plunge in the U.S. stock market. The risk of a U.S. economic recession is increasing, and the market faces multiple uncertainties. The soaring U.S. government fiscal deficit, geopolitical risks, and quantitative tightening, along with relatively high interest rates and the upcoming U.S. presidential election, could all potentially cause market panic.
The possibility of a rate cut in September by the U.S. has significantly increased. The probability of the Federal Reserve cutting rates by 25 basis points in September has fallen to 28.5%, while the probability of a 50 basis point cut has risen sharply to 71.5%. Previously, at the China Chief Economist Forum in Guangzhou, I expressed my view at the "Federal Reserve Policy and Global Capital Markets" roundtable that the current U.S. inflation rate has shown a trend of decline, and fighting inflation is no longer the main monetary policy target. With the U.S. economic growth slowing down, the Federal Reserve will likely start a rate-cutting cycle in September, possibly cutting rates by 25 basis points in the remaining three interest rate meetings in September, November, and December, totaling 75 basis points. Now, due to the sharp plunge in the U.S. stock market and the triggering of the Sam Rule, it implies that the risk of the U.S. economy falling into a recession is increasing. This also suggests that the magnitude of the Federal Reserve's rate cut in September may increase, from 25 basis points to 50 basis points, and once the rate cut is initiated, the speed of the rate cut could be very fast.
Once the Federal Reserve starts a rate-cutting cycle, it will cause the U.S. dollar index to fall rapidly, and non-U.S. currencies to appreciate. Recently, the Chinese yuan has appreciated significantly against the U.S. dollar, with a one-day surge of 1000 points, which is a reaction to the Federal Reserve's expected rate cut cycle in September. It is expected that the Federal Reserve will continue to cut rates next year to reduce the burden on businesses and residents and stabilize economic growth. The Federal Reserve now has all the conditions for a rate cut and may announce the first rate cut at the September interest rate meeting. Although the Federal Reserve adheres to full employment, moderate inflation, and financial stability as its main monetary policy goals, in the long term, the main basis for policy adjustment remains the level of inflation, including the year-on-year growth rate of CPI and core CPI, with a policy target of 2%. Due to the impact of the three-year pandemic, many industries' supply chains have encountered problems, leading to shortages. Therefore, this round of inflation control in the U.S. is very difficult, and the duration is also relatively long. This has forced the Federal Reserve to raise interest rates 11 times, and it has been more than a year since the last rate increase in July last year, with the benchmark interest rate maintained at 5.25% to 5.5%. Maintaining such a high benchmark interest rate for too long has a noticeable impact on economic growth, especially with the U.S. presidential election in full swing, and presidential candidates may also put pressure on the Federal Reserve to speed up the rate cut.
Recently, after a significant drop in technology stocks, Musk also called on the Federal Reserve to increase the magnitude of the rate cut to promote economic recovery and employment recovery. When the global capital market experiences significant fluctuations, investors are advised to watch more and act less, not to be disturbed by short-term market fluctuations. A-shares and Hong Kong stocks are at historical lows, while U.S., European, and Japanese stocks are at historical highs. The positions are different, so the performances are also different. The high-level pullback of European and American stock markets has also led many people to look forward to the possibility of an eastward shift, that is, the flow of capital from overvalued markets into undervalued markets to find valuation lows. Now, after three years of decline, many high-quality assets in A-shares and Hong Kong stocks are severely undervalued. It should be said that this is a good opportunity to layout high-quality assets once in a decade. Investors should respond to the current market downturn with a positive attitude. Although they may still lose money in the short term, it is a good opportunity to layout in the medium and long term. Value investment is easy to understand but hard to practice, especially when the market is in a long-term downturn, and many people lack confidence. Overcoming the psychology of greed and fear, laying out high-quality stocks or high-quality funds at the bottom of the market, and waiting patiently for the market to arrive is the best investment strategy at present.
