The Impact Of The FOMC Meeting On Asian Stocks
The global economy is interconnected in one way or another. It is for this reason that policy statements from some of the biggest economies in the world tend to have a broader impact on the global stock market. A Federal Open Market Committee statement is one that investors, around the world, await with vigor, given the ripple effect, it tends to have on various financial instruments.
Recent studies have shown that Asia stocks respond differently depending on the outcome of the FOMC statement. This is in part because most of the companies in the region do business in the U.S. For that, reason changes in interest rates in the U.S in one way or another tends to affect their operations.
FOMC September Statement
Stocks in Wall Street did experience a turbulent session after the FOMC released its September meeting notes. The regulator indicated it was ready to tighten the monetary policy further after increasing the benchmark rate, in a bid to keep the economy steady.
The announcement did not go well with investors triggering a sell-off that appears to have also found its way into other markets as well. Stocks in Asia dropped as investors reacted to the FED hinting at the possibility of two more hikes.
Asia Stocks Drop On FED Rate Hike Talk
Singapore stocks were on an impressive run, prior to the FOMC September meeting note hitting the wires. The stocks’ later on gave up most of their gains after the FED increased the Federal Funds Rate.
The FTSE Straits Times Index which was up 0.9% in intraday gave up most of the gains to close 0.1% higher. The drop also came on the market pricing an 85% possibility of the Federal Reserve increasing rates before the end of the year.
The sell-off came on growing concerns that further tightening could result in higher inflation that could significantly affect the supply of money in the market. Higher interest rates essentially results in a decrease in the amount of money directed towards investments more so those that underperform in high interest rate environment.
In the wake of the report, markets in the Greater China dropped 0.47% as the Shanghai Composite dropped by 3%. Japan’s Nikkei dropped 0.54% as South Korea’s KOSPI fell 0.89%.
How Federal Fund Rates Affect the Stock Market
Emerald Insights has posted a study showing a correlation between the FOMC statements and Asia stocks. While stocks in the region do respond to the FOMC announcement, the Federal fund rates statement is the one that tends to affect the stock market.
The investment community in Asia just like in the U.S obsesses about the Federal Funds rate. Commonly referred to as the Overnight rate, it is the depository rate that Federal Reserve charges banks for borrowing from it.
The U.S central bank the Federal Reserve uses the Federal funds rate to control inflation. By increasing the rate, the regulator essentially shrinks the supply of money available for supply. Conversely, whenever it decreases the rate, the result is usually an increase in the supply of money in circulation.
However, an increase in Federal Funds Rate does not affect the stock market directly. Instead, it makes it expensive for banks to borrow Money from the FED, a cost that the lenders pass down to end borrowers.
Consequently, the higher charge tends to find its way into credit cards as well as mortgage rates. The result is a decrease in the amount of money that people can spend. Considering that there are more immediate needs, some people tend to shy away from investments which in this case could be in the stock market.
The scarcity of money also makes it difficult for people to spend on some items that in one way or another affects the revenues that companies generate from product sales.
How Higher Interest Rates Affect Stocks
Stocks and other financial instruments such as bonds and commodities are always in constant jostle for investor’s capital. An increase in interest rates most of the time forces investors to focus their capital to high return investments such as bonds given that they tend to outperform in high interest rate environment.
Conversely, in times of low interest rates, bonds tend to underperform something that forces investors to shift to other financial assets such as stocks.
In Singapore, Interest rates are not set by the central bank. Instead, they are determined by the on goings in the market and largely depend on what is happening in the U.S. For that reason talk of higher interest rates in the U.S, most of the times triggers fear in the island nation stock market
The fact that U.S interest rates are on an upward trajectory also means there is a higher chance that Singapore could also experience higher interest rates soon. An increase in higher interest rates would essentially force people to shift their money to other investments such as bonds that tend to perform well in high interest rates environments.
That said, as long as there is the talk of possible of Federal Funds hike in the U.S, stocks in Singapore are likely to experience some sell-off on investors tweaking their portfolios.
Singapore stock market has been on an impressive run over the last six years. For instance, the Strait Times index has risen by more than 80% ever since it hit rock bottom in the wake of the 2009 financial crisis. The rally has mostly come at the backdrop of low interest rate environment.
Talk of further Federal Funds Rate hikes in the U.S is sure to fuel some sense of concerns in the Singapore stock market. Chances are very high that the Singapore could also experience an interest rate hike, something that could significantly affect sentiments in the stock market be it in the short term.
However, it is important to note that no iron law states stocks must drop with a rise in the interest rate or vice versa.