Fed signals higher-for-longer interest rates. What it means for T-bills and stocks

What happened?

The US Federal Reserve (Fed) has kept its benchmark interest rate unchanged in its latest meeting. 

However, the key message that came out from the Fed meeting is that interest rates could stay higher for longer to bring down inflation. 

Following the Fed meeting, there was a spike in US government bond yields, with the US 2-year government bond yield reaching close to 5.2%, the highest level since 2007.

Global stock markets fell, with the S&P 500 declining by 0.94%, while the Straits Times Index fell by close to 1% on 21 September 2023. 

We’ll be sharing our key takeaways from the Fed’s latest meeting, and what this would mean for your savings and investments.

What we learnt from the latest Fed meeting

#1 – Fed pauses on rate hikes

After raising interest rates in the July Fed meeting, the Fed has decided to keep the benchmark interest rate unchanged at 5.25% to 5.5%.

The Fed believes that it can now “proceed carefully”, with inflation showing signs of easing. 

Despite the pause in interest rate hikes, the benchmark interest rates would still be at the highest level since 2001. 

#2 – Fed is quite close to done raising interest rates

In their interest rate projections after the Fed meeting, 12 out of 19 officials said that they expect to raise rates once more this year.

The Fed’s projection led to a higher probability assigned to higher interest rates later this year.

According to the CME Fedwatch tool, the probability that investors have assigned to a further rate hike in December 2023 rose to 40% from 36% before the Fed meeting.

That said, most investors still do not expect any further rates hikes. Investors have assigned a 53% probability to interest rates remaining at the same levels in December 2023, even as the probability has fallen from 59% a day ago. 

#3 – Rate cuts are unlikely anytime soon

The key message from the Fed meeting appears to be that interest rates will stay higher-for-longer. In other words, we are unlikely to see interest rate cuts anytime soon. 

The latest projections by Fed officials indicate that the benchmark rate could be at 5.1% at the end of next year based on the median estimate. This is higher than the projected benchmark rate of 4.6% in the last projection in June. 

This is because the US economy has stayed resilient despite the aggressive Fed interest rate hikes, with consumer spending and the job market remaining strong.

If the benchmark interest rate were to be at 5.1% at end-2024, this could mean that investors are overly optimistic on the timing of interest rate cuts. 

According to the CME Fedwatch tool, investors are now largely expecting the first rate cut to be in July 2024, with a series of further cuts bringing the benchmark interest rate to 4.75% to 5.00% by end-2024.

What would Beansprout do? 

There are a few key takeaways from the latest Fed meeting:

• We have a pause in interest rate hikes once again
• The Fed is quite close to done raising interest rates even though it projects one more rate hike this year
• However, interest rates may stay higher for longer with the pace of rate cuts in 2024 slower than market expectations 

The expectation that interest rates might stay higher for longer has led to elevated levels of Singapore T-bill yields. More recently, the cut-off yield on the Singapore 6-month T-bill rose to 3.73% from 3.70% in the previous auction.

We have also started to see some banks raising their fixed deposit rates once again, with the best 6-month and 12-month fixed deposit rate now raised to 3.60%. 

In fact, some banks have also started to dangle higher interest rates on their savings accounts, with MariBank recently raising the interest rate on its savings account to 2.88%.

Investors who would like to tap the higher interest rates in a safe way while having the flexibility of redeeming their cash can also consider cash management accounts. 

However, higher interest rates are generally seen as being negative for stocks, especially for companies with high levels of debt. This is why global stocks fell following the Fed’s message that interest rates may stay higher for longer. 

In particular, REITs which make use of borrowings to fund the acquisition of real estate assets could face higher funding costs. REITs with elevated levels of borrowing, such as Manulife US REIT (SGX: BTOU) saw the most significant share price declines. However, the share prices of REITs with lower levels of borrowing, such as Frasers Logistics & Commercial Trust (SGX: BUOU) have been more resilient. 

To hold S-REITs for dividend income, we would need to be selective and analyse carefully the amount of debt each REIT has. You can use our REIT tool to compare Singapore REITs and find the best REIT for your portfolio.

Join the Beansprout Telegram group and Facebook group for the latest insights on Singapore stocks, REITs, bonds and ETFs. 

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