SINOLINK SECURITIES: The Federal Reserve's room for interest rate cuts is limited, and the risk of recession may shift from "concern" to "reality."

According to the Zhitong Finance APP, SINOLINK SECURITIES released a research report stating that the Federal Reserve will maintain the federal funds target interest rate range at 4.25%-4.50% during the March 2025 meeting, which is in line with market expectations. This also marks the second consecutive "pause" since the start of this round of interest rate cuts. The policy proposals of Trump 2.0 have more "negative" implications for the economy, and most of the U.S. economic data released since February has weakened and fallen below expectations. The economic surprise index continues to decline and is in negative territory, with the risk of "stagflation" continuing to rise. This FOMC also provides some evidence for this, and April 2nd, when Trump's "reciprocal tariffs" take effect, will be the next important observation point.

At the same time, the Federal Reserve's room for interest rate cuts is limited, which may accelerate the transition of the risk of U.S. economic recession from "concern" to "reality." Once a "hard landing" is confirmed, it remains a baseline scenario for the Federal Reserve to continue to advance the interest rate cut cycle or even implement larger cuts. The unemployment rate, which is continuously monitored, may still be the core indicator determining the timing of interest rate cuts, with the latest SEP providing an important reference threshold of 4.4% for 2025.

In terms of asset allocation, waiting for the U.S. "hard landing," gold prices will continue to reach new historical highs, driven by the re-advancement of the Federal Reserve's interest rate cut cycle, the trend depreciation of the dollar, support from gold purchases by central banks, and the "secondary pull" after the outflow of dollar liquidity. Under the Federal Reserve's interest rate cut cycle, both A-shares and Hong Kong stocks in innovative pharmaceuticals have opportunities for price increases and excess returns. From an industry fundamental perspective, short-term improvements in gross profit margins and IRR recovery are expected, and mid-to-long-term revenue is also likely to improve.

The main points of SINOLINK SECURITIES are as follows:

The Federal Reserve will maintain the federal funds target interest rate range at 4.25%-4.50% during the March 2025 meeting, which is in line with market expectations, marking the second consecutive "pause" since the start of this round of interest rate cuts.

The biggest change in this meeting's statement and economic projections summary (SEP) further reflects concerns about the "stagflation" risk for the U.S. economy against the backdrop of Trump's extremely high policy uncertainty. On one hand, the main changes in this statement are as follows: 1) The expression "increased uncertainty in economic outlook" has been added, and the original statement of "risks to employment and inflation targets being broadly balanced" has been removed; 2) Announced a "slowing of QT pace," reducing the monthly redemption limit for U.S. Treasury bonds from $25 billion to $5 billion, while the MBS redemption limit remains unchanged.

On the other hand, the updated economic projections summary "lowers growth forecasts and raises inflation and unemployment rate forecasts": 1) The real GDP growth rate forecasts for 2025/26/27 have been revised down by 0.4pct/0.2pct/0.1pct to 1.7%/1.8%/1.8%, with the unemployment rate forecast for 2025 raised by 0.1pct to 4.4%, and the core PCE year-on-year forecast for 2025 raised by 0.3pct to +2.5%. It is worth noting that the participants' forecast risks for growth are significantly skewed to the downside, while the risks for the unemployment rate are significantly skewed to the upside; 2) The median interest rate forecast shown in the dot plot remains unchanged, and with a reduction of 25bps per time, the number of policymakers expecting two rate cuts within the year remains the same, but from the distribution, the number of policymakers expecting one rate cut or no cuts within the year has increased from 4 in December to 8. **

"Economic outlook uncertainty" and "tariff inflation" have become the focus of the March FOMC, with the following key points worth noting:

1) Inflation outlook: The impact of tariffs on inflation and the resulting constraints on the Federal Reserve's ability to cut interest rates have become the most concerning issues for market participants and the focus of this press conference. Powell pointed out that the strong commodity inflation readings over the past two months have reflected the "stockpiling" behavior driven by tariffs pushing up inflation, but he did not express excessive concern about the potential inflationary impact caused by tariffs. On one hand, he believes that under the baseline scenario, the impact of tariffs on inflation may still be "transitory," despite many uncertainties; on the other hand, he repeatedly refuted claims about rising long-term inflation expectations, citing the New York Fed's inflation expectations survey and market trading inflation expectations as evidence.

2) Economic growth outlook: Powell acknowledged that the series of Trump administration policies represented by tariffs have been incorporated into economic forecasts and emphasized the "high uncertainty of predictions," but at the same time downplayed the "recession concerns" amid the rapid deterioration of recent survey data (soft data), believing that some hard data remains decent.

3) Labor market: Overall, there was less discussion about the labor market in this meeting. Powell believes that "the unemployment rate is very close to the natural unemployment rate level," currently in a "low layoffs, low hiring" environment. If the number of layoffs increases significantly, due to the low hiring rate, it will quickly translate into a rise in the unemployment rate.

SINOLINK SECURITIES believes that the implications of Trump 2.0's policy proposals for the economy are more "negative," with most U.S. economic data released since February showing weakness and falling below expectations. The economic surprise index continues to decline and is in negative territory, and the risk of "stagflation" continues to rise. This FOMC also provides some evidence, with April 2 being the next important observation point for Trump's "reciprocal tariffs."

At the same time, the Federal Reserve's ability to cut interest rates is limited, which may accelerate the transition of the U.S. economic recession risk from "concern" to "reality." Once a "hard landing" is confirmed, it remains the baseline scenario that the Federal Reserve will continue to advance the interest rate cut cycle or even implement larger cuts. The unemployment rate, which is continuously monitored, may still be the core indicator determining the timing of rate cuts, with the latest SEP providing an important reference threshold of 4.4% for 2025.

Allocation suggestions

Gold: Waiting for the U.S. "hard landing," gold prices will continue to reach historical highs, driven by the renewed advancement of the Federal Reserve's interest rate cut cycle, the trend depreciation of the dollar, central bank gold purchases for support, and the "secondary pull" after the outflow of dollar liquidity.

Pharmaceuticals (especially innovative drugs): Under the Federal Reserve's interest rate cut cycle, both A-shares and Hong Kong stocks in innovative drugs have opportunities for price increases and excess returns. From an industry fundamental perspective, short-term gross margin improvement and IRR recovery are expected, and mid-to-long-term revenue is also likely to see improvement.

U.S. stocks: Adjustments are trend-based rather than temporary, with increasing economic downturn risks raising concerns about profit growth on the numerator side. The marginal slowdown in capital expenditure expectations for tech giants has also led to amplified performance uncertainty, necessitating a correction in valuation levels U.S. Treasuries: The rise provides allocation opportunities, with the dot plot predicting two rate cuts within the year, combined with the judgment of a "hard landing" for the U.S. economy, the central tendency of U.S. Treasury yields is likely to continue to decline this year.

Risk Warning

The risk of a second rebound in U.S. inflation may lead the Federal Reserve to raise interest rates more than expected