Fed cut rate???

Fed is not likely to cut rates next week. Of course, the fed funds futures have been telling us this all along, so it should hardly be viewed as a breaking story...

 

if there is a cut, I won't return.

 

Another factor is that all the money center banks and big brokerages have been whining for a rate cut. The Fed never likes to be told what to do. Also, if rates are cut, the banks will not pass that on to the consumer. The fed will stand pat.

 

The question is really: why wouldn't the Fed cut rates? In an ideal world, interest rates are 0, so the govt can borrow money and not have to pay any interest. So the natural tendency is to lower rates except for the following reasons:

a. increases risk of inflation. However, last couple of PPI reports show a deflationary trend despite all of the interest rate cuts that have already occurred. There is no short-term risk of inflation at this point.

b. lowered interest rate weakens dollar. While this is not so good for bonds, this is great for stocks. Might as well put your hard-earned dollars into companies that will get paid in Euros and yen for their products. Weakening dollars are great for the economy as long as there is a stable floor. The recent weakening, and then bounce, show that the dollar will not freefall. Why do you think Japan is so desperate to weaken the yen. They will go bankrupt unless the yen is weaker.

c. govt has a harder time borrowing money with lower interest rates. There's no answer to this except that the deficit is nowhere near where it was in the 80s and if lowered interest rates strengthen the economy then long-term it will be easier to raise money.

Often, financial stocks lead a recovery. A lower interest rate will encourage more housing refinancing, more construction ("housing is not a bubble" - Mr. G), more loans, mortgages, etc. Financials will skyrocket tomorrow (particularly after the pullback today on worries the Fed will not raise.)

My prediction: 25 bps cut with a neutral bias.

 

The question brought up two posts ago is that the consumer will not realize the benefits of a cut. This might be true.

Mortgage rates come down slightly and the new bankruptcy laws ironically favor the hard-working consumer who pays his bills and wants to borrow money from banks that have been burned.

The big question really is, will businesses be able to borrow money at reduced rates. With all the problems with WCOM and Enron, debt deals are having a hard time getting done. A friend of mine at DB tried to get a BBB+ deal done at 12% (junk level) and was rejected by all the usual suspects.

Lowering interest rates does not solve this problem although it is a first step (because financial institutions can borrow more easily). Is Aug 14 a solution? Not really although it will lead to short-covering in the markets. Ultimately, time, an improving economy, and a growing stock market (where people can raise money through equity) will make debt deals more competitive and ultimately more lucrative than they are now. Lowering interest rates allow us to borrow this time while the economy and stock market improve.

 

Vishnu, here is Bill Gross' take on the liquidity (or lack thereof):

http://www.pimco.com/ca/bonds_commentary_investment_outlook_0802.htm

Also, I see a few scenarios:

Easing/No easing but more importantly....potential bias change. I think the market is so demoralized lately that even a morsel like that will make it rally.

The way I'm thinking of playing it is to watch the market action before the announcement. If it initially goes up, then the probability of it reversing are high (and vice versa).

 

Anyone who thinks a fed rate cut will liven up this economy is dreaming. Only thing it would spur is people getting deeper in debt. These so called experts are full of themselves.

 

I doubt if tomorrow's rate cut (if any) will have any effect in the US economy. It is more trader's market than investors'.

 

Agree. The only good reason to borrow money IMO is to be able to grab an opportunity and there don't seem to be many opportunities nowadays. If you borrow it you've got to have something to do with it besides pay off other creditors if it's going to be beneficial to the economy. Haven't heard of many businesses expanding but a lot of debt, cutbacks, and consolidation. Guess it might be a couple years before this thing gets turned around, economic cycle.

 

low interest does not mean it's easy to get money. it only means money is cheap when you get it, and if.
corporations still not buying.