CPI favors the Fed's rate cut expectations, but don't be too happy too soon!

The soft US CPI data in June added fuel to the Fed's rate cut expectations. However, the market still faces several negative catalysts: multiple potential geopolitical conflicts, unsustainable US fiscal situation, and the uncertainty of the 2024 US presidential election.

The world is setting their models around one idea, that is the prospect of the Fed cutting rates this year. But we should not be too sure that things will develop this way. Rate cuts do not necessarily mean a significant rise in US stocks. In fact, if history is any guide, they may signal the opposite.

While US stock investors are anticipating rate cuts and several economic data points are seen as favorable for rate cuts, in reality, they may actually be warning signs that the market is preparing for a significant downturn.

As shown in the above and below charts, the bottom of the US stock market typically occurs after the Fed cuts rates, which usually takes 18 to 24 months.

Do not let rate cuts be the sole signal of a potential market crash. Behind the scenes, macroeconomic data is piling up like a series of car crashes on a highway.

There are significant cracks appearing in the US banking and commercial real estate sectors, and consumer purchasing power has been exhausted, as seen in recent financial reports of retail companies, and the unemployment rate has now risen to 4.1%, the highest since November 2021.

According to data from the New York Fed, more people are maxing out their credit cards in 2024 compared to 2023. The latest report from the New York Fed shows that household debt increased by $184 billion in the first quarter of 2024, while credit card balances decreased by $14 billion, which is a seasonal normal phenomenon. However, credit card default rates are rising, with 18% of borrowers using at least 90% of their credit limits, indicating an increase in the proportion of maxed-out credit cards.

Debt defaults indicate that borrowers are unable to fulfill their repayment obligations. The most direct impact is that financial institutions issuing these debts may face liquidity constraints as their expected income is interrupted. In an environment of rising default rates, lending institutions naturally become more cautious, tightening loan standards or raising interest rates to offset higher risks. This may not only suppress entrepreneurial activities but also reduce consumer spending as individuals and businesses find it more difficult to obtain credit.

When consumer spending decreases, businesses will see a decline in income and profits, weakening their investment attractiveness. Lower earnings may lead to a decline in stock prices. If we look at history, the US stock market is likely to decline rather than rise. It is only after a few quarters or years following a rate cut that the market may find its bottom. That is why a rate cut should not be simply seen as a signal to immediately buy stocks