Fed's interest cut benefits CMG, XLRE, VNQ. Read & decide.
Never in a million years thought I would hear the Fed agreeing (with market) that an interest cut is in order, heading into 2024.
This droves the market wild, round about the time of the press conference, US time 2:00pm. (see below)
All 3 composite indexes “peak” around US time 3:00pm, then headed south for 30mins before staging a “recovery” of sort to end Wed, 13 Dec 2023 on a high.
By the time 4pm came around:
DJIA: +1.4% (+512.30 to 37,090.24). Notched its first record high close since January 2022.
S&P 500: +1.37% (+63.39 to 4,707.09). Will the 500-Index supersede its 4,766 peak achieved on 31 Dec 2021?
Nasdaq: +1.38% (+200.57 to 14,733.96). Will be interesting to know if tech index will hit 15,000 mark in the remaining 2 weeks of 2023!
Rolling good times looks to continue on Thu, 14 Dec 2023: (futures indexes indicate)
DJIA Futures: +0.25% (+94.0 to 37,582.00).
S&P 500: +0.39% (+18.75 to 4,779.50).
Nasdaq: +0.62% (+103.25 to 16,881.00).
In my post on Wed, 13 Dec 2023 (click here! to read) I have shared the Fed’s Economic Forecast document where it showed that the Fed had penciled in a -0.5% cut in Fed fund rates in 2024.
During yesterday FOMC meeting, the Fed also shared its updated dot plot chart. (see below)
The Fed has published the “dot plot” chart that maps out policymakers’ expectations on where interest rates could be headed in the future, since 2011.
It serves as a guide for financial markets, that dislike policy surprises from the US central bank.
Is the Fed’s December 2023 dot plot dovish?
The Fed’s latest dot plot paints a picture of a decisive central bank shifting towards a more dovish stance.
On Wed, 13 Dec 2023, the FOMC confirmed the current Fed funds rate remains unchanged at 5.25% - 5.50%.
The trajectory for its future path, however, has undergone a significant transformation.
(1) Interest cuts in 2024 & 2025:
The most striking feature of the updated dot plot is the projected easing of monetary policy.
For 2024, the median dot suggests a total of 75 basis points (bps) or -0.75% in rate cuts by 2024 (4.50% - 4.75%).
This will be followed by another 50 bps or -0.5% in rate cuts by 2025 (4.00% - 4.25%).
(2) Reasons for interest cuts?
The Fed’s sentiments shift reflects a changing economic landscape.
Inflation concerns though present, have receded as recent data points to moderation in price pressures.
Instead, the risk of an impending recession has become more pressing. Growth projections have been revised downwards, across the board.
(3) Market implications?
The Fed's dovish stance is likely to be welcomed by the financial markets.
Lower interest rates could boost borrowing & investment, revitalizing economic activity in the process.
Stock prices, especially in interest-rate sensitive sectors, could benefit from the easing pressures.
Bond yields, however, are likely to dip further and becomes fixed-income investors’ concerns.
(4) Uncertainties:
The path ahead remains uncertain.
(1) Geopolitical factors, (2) Energy prices, and (3) labor market dynamics are potential wildcards that could influence the Fed's monetary policy decisions.
Individual FOMC members hold different views, as reflected in the wider range of dots scattered on the chart.
Additional considerations:
Impact of rate cuts on different sectors eg. (a) housing, (b) consumer spending, and (c) business investment.
Potential risks associated with a dovish pivot would be (i) asset bubbles and (ii) renewed inflationary pressures.
The Fed's commitment to its dual mandate of maximum employment and price stability. Mr Powell has mentioned that the Fed is very cognizant of the risk in keeping policy tight for too long.
With a clear picture insight, what to invest?
To me there are 3 sectors that stands to benefit from Fed’s interest rates cut. However, only 2 sectors would be covered in this post, due to real estate.
1. Consumer Discretionary:
Interest rate cuts (a) make borrowing cheaper, (b) boosting consumer spending and (c) demand for discretionary goods.
Should be looking for companies that provides goods & services that do not cost an arm and a leg, non-big ticket items.
a. $Target(TGT)$.
Large, diversified retailer with a focus on omnichannel fulfillment, well-positioned to capture increased shopping activity.
b. $Chipotle Mexican Grill(CMG)$.
Investing in a food business can never go wrong as everyone needs to eat and sometimes (cheaply).
CMG has a strong branding, resilient sales growth, and potential for expansion.
They will benefit from increased consumer spending.
Theirs is also a story of a comeback kid.
Q2 2023 earnings: (summary)
Earnings per share (EPS): $12.65 adjusted vs. $12.31 expected.
Revenue: $2.51 Billion vs. $2.53 billion expected.
Operating margins: came in at 27.5% vs 25.2% YoY.
Q3 2023 earnings: (summary)
Earnings per share (EPS): $11.36 adjusted vs. $10.55 expected.
Revenue: $2.47 Billion, largely in line with expectations.
Operating margins: came in at 26.3% vs 25.3% YoY.
Like all pedigree stocks, CMG has gain +52.12% for past year performance.
However, at $2,340 a share, it would have to be a fractional purchase (for me) if I do take a stab at this food-glorious-food stock.
2. Real Estate:
Lower interest rates reduce borrowing costs for mortgages and rentals, stimulating the housing market.
a. $Real Estate Select Sector SPDR Fund(XLRE)$.
I have covered this ETF in my 6 Dec 2023 post. Click here! for details.
This real estate ETF has a modest +0.79% gain for its past 1 year performance.
It peaked at $41.83 per share on 01 Feb 2023.
It bottom at $32.35 per share on 27 Oct 2023.
Since then it has been on an upward trend.
It gained a healthy +3.63% on Wed, 13 Dec 2023 after the Fed (a) announced a halt to interest hike and (b) interest rate tapering in 2024. (see above)
b. $Vanguard Real Estate ETF(VNQ)$.
The Vanguard Real Estate ETF (VNQ) tracks the MSCI US Investable Market Real Estate 25/50 Index, offering broad exposure to US-listed Real Estate Investment Trusts (REITs) and other real estate-related investments.
Positives traits:
Diversification: VNQ provides instant diversification across various real estate sub-sectors, mitigating risks associated with individual property performance.
Liquidity: Being an ETF, VNQ offers high liquidity, allowing for easy entry and exit from the market.
Dividend Income: REITS are known for their high dividend yields, and VNQ currently boasts a 3.85% unadjusted effective yield, potentially providing a steady income stream.
Potential Benefits from Fed Easing: Lower interest rates can boost REIT and real estate valuations by reducing borrowing costs, potentially increasing VNQ's value.
Negatives warnings:
Sensitivity to Interest Rates: While lower rates can be beneficial, a sudden or unexpected shift in Fed policy could negatively impact VNQ if rates rise again.
Economic Dependence: Real estate performance is closely tied to the overall economy, making VNQ susceptible to recessions or economic downturns.
Limited Growth Potential: VNQ primarily focuses on income generation, offering less potential for significant capital appreciation compared to other sectors.
Expense Ratio: VNQ's expense ratio of 0.12%, while low, nevertheless still eats into overall returns.
Compelling Investment?
In light of a potential Fed pivot towards rate cuts in 2024, VNQ becomes a more compelling investment for certain investors, although not without caveats:
Income Investors: For those seeking regular income, VNQ's high dividend yield and potential boost from lower rates make it a good option.
Defensive Investors: VNQ's diversification and exposure to a relatively stable asset class (real estate) could appeal to investors seeking to hedge against market volatility.
Long-Term Investors: Those with a long-term investment horizon can potentially benefit from VNQ's potential for moderate capital appreciation alongside its income stream.
Before taking a leap of faith.
Risk Tolerance: Real estate markets can be volatile, and VNQ's price can fluctuate significantly. Ensure your risk tolerance aligns with this potential volatility.
Investment Goals: If your primary goal is aggressive capital growth, VNQ might not be the best option due to its moderate growth potential.
Due diligence. Remember to conduct your own research and even consult with a financial advisor before making any investment decisions.
Do you think you will “hurry” into a buy now that the US market is more positive than ever?
Do you think any of the above stocks, ETF, REITs is what you are looking for?
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