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US Federal Reserve Drastic Measures To Stimulate Economic Activity And Calm Financial Markets

Stuart Lucy

Stuart Lucy is an Investment Specialist at the Australian Stock Report, and has gained exposure to funds management and investment banking throughout his career. He draws on this experience to provide macroeconomic commentary and actionable investment insights to clients. Stuart is responsible for writing reports, is involved in delivering Macrovue webinars and provides general advice to our members on portfolio construction. Stuart currently holds RG146 General and Securities qualifications.

What are the recent policy decisions from the US Fed?

The US Federal Reserve (US Fed) has taken drastic action in order to shield the US economy from the coronavirus (COVID-19) outbreak, as well as calm financial markets. On 3 March 2020, the US Fed announced an emergency rate cut of 50 basis points. This reduced the federal funds rate from the range of 1.50% – 1.75% to 1% – 1.25%.  This policy decision was in response of increased cases of COVID-19 in the US, and the impact the virus is causing for US companies and employees.

 

 

On 15 March 2020, the US Fed announced further monetary easing. It was announced that the US Fed has reduced the US federal funds rate from 1% - 1.25% to 0.00% - 0.25%. In addition to this monetary easing, the US Fed announced a US$700 billion quantitative easing operation that consists of the US Fed buying an additional US$500 billion of Treasury securities and buying an additional US$200 billion of mortgage-backed securities. The aim of this round of quantitative easing is to restore smooth market’s functioning to ensure that credit can flow and foster improved financial conditions.

The US Fed also announced that they have reduced the interest rate on discount window loans by 150 basis points, reducing the rate to 0.25%. The discount window loan allows institutions (specifically the banks) to borrow money on a short-term basis to meet shortages of liquidity and to meet credit demand from consumers and businesses. This should be able to direct further liquidly into the banking sector to ensure the stability of the banks.

Finally, the last main monetary policy tool the US Fed announced is the removal of banks reserve requirements to encourage the banks to use the intraday credit (credit lasting less than one day) with the US Fed reserve to further support banks’ lending to households and businesses.

Will there be future rate cuts?

Investors can expect no further cuts to the federal funds rate as it is now effectively 0%. While there is the possibility of the US Fed could enact negative interest rates, this is very unlikely. A more likely situation is that the US Fed may undertake further quantitative easing to further reduce the long-term interest rates. This would be a positive for asset prices beyond the short term.

What was the US market reaction?     

The US market reaction to the US Fed announcement was negative. The Dow Jones was down 13%, the S&P 500 was down 12% and the NASDAQ was down 12%. This was the largest drop in US markets since black Monday in 1987. The drop in the US market may be due to the significant impact of measures to combat COVID-19 are having on the outlook for the global economy which looks like heading for a recession.

What is the Australian market reaction?

The Australian market opened higher today (17 March 2020) up 1%. However, this is following yesterday’s drop of around 9%.

 


 

Disclaimer:

This article has been prepared by the Australian Stock Report Pty Ltd (AFSL: 301 682. ABN: 94 106 863 978)

(“ASR”). ASR is part of Amalgamated Australian Investment Group Limited (AAIG) (ABN: 81 140 208 288 Level 13, 130 Pitt Street, Sydney NSW 2000).

This article is provided for informational purpose only and does not purport to contain all matters relevant to any particular investment or financial instrument. Any market commentary in this communication is not intended to constitute “research” as defined by applicable regulations. Whilst information published on or accessed via this website is believed to be reliable, as far as permitted by law, we make no representations as to its ongoing availability, accuracy or completeness. Any quotes or prices used herein are current at the time of preparation. This document and its contents are proprietary information and products of our firm and may not be reproduced or otherwise disseminated in whole or in part without our written consent unless required to by judicial or administrative proceeding. The ultimate decision to proceed with any transaction rests solely with you. We are not acting as your advisor in relation to any information contained herein. Any projections are estimates only and may not be realised in the future.

ASR has no position in any of the stocks mentioned.

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