What Happens After Interest Rate Cuts? - A Discussion on Historical Experiences of Interest Rate Cuts

Key Points

The Federal Reserve is set to cut interest rates on Thursday. We have been more optimistic about the rate cut than the market, and this has been confirmed.

What will happen after the rate cut is the most concerning question for the market. Domestically, some worry about mild inflation or severe stagflation; externally, some expect favorable asset prices and capital flows, especially towards emerging markets, but this has already been priced in. Our views are:

① On the economic front, compared to the market's concerns about recession or even stagflation, we are more inclined to believe that the U.S. will gradually move towards recovery, with even a risk of "overheating."

② This means that the rate cut will still be preventive, and the Federal Reserve does not need to cut much under "natural conditions."

③ On the asset front, the "loose trading" of strong bonds and weak stocks is a fixed script in past instances, which is already unfolding, but the biggest difference with preventive rate cuts is that it will switch to "recovery trading" more quickly, averaging 1-3 months. This is manifested as:

1. The U.S. dollar and U.S. Treasury yields bottom out, and U.S. stocks turn to rise after January;
2. Gold typically sees a pullback after an average of 1 month, while copper rebounds after 2-3 months;
3. The benefits for emerging markets are limited, with developed markets outperforming after the rate cut;
4. Hong Kong stocks have greater elasticity and "lead by half a step," with growth and small caps dominating, but may see a pullback after the rate cut.

In terms of trading, we suggest that U.S. Treasuries and gold will be strong first and then weak; the U.S. dollar will be weak first and then strong; U.S. stocks can still be bought on pullbacks, chasing technology in a pro-cyclical manner. The Chinese market should focus on fundamental structures and mapping opportunities.

Main Text

Following Powell's unexpected "dovish" turn, two consecutive months of disappointing non-farm payrolls, and the August CPI not showing a steep rise, the Federal Reserve's rate cut in September (early morning on September 18 Beijing time) is imminent.

A 25bp cut remains the baseline scenario, and the divisions within the Federal Reserve will widen, but a 50bp cut is still a bit "premature." As for whether there will be consecutive rate cuts in October (current rate expectations have reached 80%), this still requires confirmation from next month's data. Nevertheless, this means that after a gap of 9 months, the Federal Reserve will restart rate cuts, bringing the benchmark rate down to 4-4.25%.

Chart 1: CME interest rate futures predict a 100% probability of a rate cut in September, with an 80% probability of a rate cut in October Source: CME, CICC Research Department

What will happen after the rate cut? Domestically, some worry that the Federal Reserve cutting rates at this time is "adding fuel to the fire," potentially reigniting inflation or leading to stagflation; externally, some expect it to bring favorable asset prices and capital flows, especially for emerging markets including Hong Kong and A-shares, but are conflicted as this expectation has already been somewhat priced in. The risk of tariffs has further increased the market's divergence regarding the impact of this rate cut.

Compared to the market's concerns about recession or even stagflation, we are more inclined to believe that the U.S. will gradually move towards recovery, with a certain risk of "overheating" in the future. This means that the Federal Reserve does not need to cut much under "natural conditions" (4 rate cuts to 3.25-3.5% correspond to U.S. Treasury yields of 3.9-4.1%). Recently, the dominant market trend of strong bonds and weak stocks "loose trading" (interest rates down, US dollar weak, gold up, growth and emerging markets leading) will gradually switch to strong stocks and weak bonds "recovery trading" (interest rates and the US dollar stabilizing or even rebounding, gold correcting, and differentiation among emerging markets due to their respective fundamentals) as the effects of interest rate cuts become apparent.

However, if the Federal Reserve, after the leadership change, "stubbornly" cuts rates further (current interest rate futures expect 6 cuts of 150bp to 2.75-3%), it will lead to a longer period of "dual bull markets in stocks and bonds," ultimately resulting in the risk of "overheating" in assets and markets.

Chart 2: Asset performance also shows a typical loose trading pattern, with US Treasury yields and the US dollar retreating, gold rising, and US stocks rebounding after a correction Source: Bloomberg, CICC Research Department

What is different about this round of interest rate cuts? "Preventive": The economy is not bad (doesn't need much) + inflation remains high (sustainability is questionable)

We have repeatedly emphasized that the biggest misconception in market analysis regarding the impact of the Federal Reserve's interest rate cuts is directly applying the "historical experience" of previous rate cuts without distinguishing the reasons and macro background for the cuts.

In fact, the 7 rounds of interest rate cut cycles since 1994 vary in length and reasons, and their impacts on the economy and asset implications are vastly different. Rigidly applying past experiences will only lead to erroneous attributions ("How does the Federal Reserve cut interest rates?"). Therefore, before discussing what changes this round of interest rate cuts will bring, it is essential to clarify the characteristics of this round of cuts.

If we look at the path of interest rate cuts from the Federal Reserve's two main goals, growth and inflation,

1) The degree of weakening in growth directly determines the extent to which the Federal Reserve needs to cut rates. If the economy experiences a deep recession like in 2001 and 2008, the Federal Reserve will need to cut rates significantly. However, if it is merely a soft landing cycle like in 1995, 2019, and 2024, "preventive" rate cuts will be sufficient to address the slowdown in growth, requiring less drastic cuts and resulting in a shorter rate cut cycle.

2) Relatively speaking, the path of inflation more influences the timing and subsequent pace of rate cuts. If inflation levels are relatively mild, the Federal Reserve naturally has more room to address growth contradictions. However, if inflation is already rising, the tail risk may suppress the downward space for policy rates, even forcing a pause in rate cuts. In this sense, we believe this round of interest rate cuts has two significant characteristics:

► First, growth is only slowing rather than experiencing a deep recession, leading to "preventive" rate cuts, so there is no need for significant cuts, and the cycle may be relatively short.

Currently, the US economy shows significant internal differentiation; on one hand, there is the continuously accelerating investment in AI, while on the other hand, traditional private demand is still declining under the pressure of high interest rates (Chart 3). The ISM Manufacturing PMI has remained below the expansion line since February, and the persistent bottoming out of real estate demand reflects the need for the Federal Reserve to cut rates However, the economy is still far from recession at present. Whether looking at the main economic indicators defined by the NBER for recession (except for employment numbers, other indicators such as personal real income and expenditure, industrial output, and real trade sales all show economic expansion) or from the current market consensus on the probability of recession (only 30%), this remains the case.

Chart 3: The U.S. economy shows significant divergence, emerging investments continue to grow, while traditional demand is still declining Source: Haver, CICC Research Department

Chart 4: Capital expenditures of U.S. tech giants continue to accelerate Source: Haver, CICC Research Department

Chart 5: The U.S. ISM Manufacturing PMI has remained below the expansion line since February 2025 Source: Haver, CICC Research Department

Chart 6: Real estate demand continues to weaken, existing home sales are still bottoming out, and new home sales are also slowing year-on-year

Second, inflation is still on the rise, and the sustainability of interest rate cuts may be in doubt. This round of interest rate cuts is different from previous "preventive" cuts in that historically, when the Federal Reserve began to cut rates, inflation was on the decline, but this time inflation is rising. The impact of tariffs on inflation is an undeniable fact; the U.S. CPI year-on-year has risen from a low of 2.3% in April to 2.9% in August. As tariffs continue to be passed on to U.S. consumers, it may continue to rise, which is also the market consensus.

However, one misconception in the market is the overemphasis on the endpoint of tariff impacts while neglecting the path and process. We estimate that after reaching a year-on-year CPI of 3.2% by the end of the year, it may gradually peak and decline.

On one hand, we have repeatedly emphasized that rising inflation does not mean that interest rate cuts are impossible. As long as the slope of the rise is relatively moderate, facing greater challenges in employment and growth, there is no need to wait for inflation to decline before cutting rates.

On the other hand, there is indeed a risk of inflation tailing off in the fourth quarter. If the fundamentals recover quickly after interest rate cuts, making it unnecessary for the Federal Reserve to cut rates further, it cannot be ruled out that the Federal Reserve's focus may shift more from employment to inflation, potentially providing a better window for rate cuts after inflation declines in the first quarter of next year.

Chart 7: We expect the year-on-year CPI to be 3.2% by the end of the year, gradually peaking and declining; core CPI year-on-year at 3.4% Source: Haver, CICC Research Department

However, the variable lies in the fact that if the independence of the Federal Reserve is significantly interfered with next year, it may lead to more frequent and larger rate cuts, which could bring about the risk of "overheating" in assets and the economy.

Previously, Trump has repeatedly "threatened" to fire Federal Reserve Chairman Jerome Powell, recently nominating his economic advisor Milan to temporarily serve as a Federal Reserve governor, and announced on social media that he would fire Federal Reserve governor Cook. Currently, after a local court in Columbia has just ruled to temporarily block this dismissal order, the Justice Department has requested the federal appeals court to overturn this ruling, and whether the dismissal will ultimately occur is still in negotiation.

The FOMC decision-making team consists of 7 Federal Reserve governors and 5 regional representatives. If both of these individuals can be successfully appointed, combined with the governors Bowman and Waller nominated during Trump's first term, Trump will control 4 out of the 7 governors in the Federal Reserve, and may even further penetrate the regional Federal Reserves.

We believe there is a possibility that Trump will further interfere with FOMC decisions, with a certain probability that the Federal Reserve, which should not and does not need to cut rates multiple times, may instead increase the intensity of rate cuts, potentially leading to overheating in the economy and markets, thereby increasing subsequent risks.

Changes in the economy after rate cuts? Gradual recovery may even lead to overheating, with real estate and traditional investments being more sensitive

Unlike the market's concerns about recession or stagflation, we believe that the U.S. economy will gradually recover and may even face the risk of "overheating." This can be analyzed from the "three drivers" that drive U.S. demand and credit cycles:

► AI-related investments: Continuing to accelerate. The year-on-year growth rate of information technology equipment investment is expected to rise from 5.1% in Q4 2024 to 20.1% in Q2 2025. Tech giants are further raising their capital expenditures, such as Meta raising its full-year capital expenditure to $66-72 billion (previous target was $64-72 billion), and Google raising its full-year capital expenditure to $85 billion (previously $75 billion), resulting in the year-on-year growth rate for tech giants in 2025 being raised from the 39% predicted in the first quarter report to 44%.

Chart 8: Year-on-year growth rate of information technology equipment investment is expected to rise from 5.1% in Q4 2024 to 20.1% in Q2 2025 Source: Haver, CICC Research Department

Chart 9: Tech leaders raise full-year capital expenditures, with the year-on-year growth rate for 2025 being raised from the 39% predicted in the first quarter report to 44% Source: FactSet, CICC Research Department ► Fiscal Expenditure: Marginal improvement. On one hand, the impact of tax cuts after the passage of the "Great Beauty" Act will be concentrated after the start of the fiscal year 2026 in October, and the fiscal pulse will also improve month-on-month; on the other hand, the promised $1.6 trillion in investment expenditures from the tariff agreements between the U.S. and various countries will gradually materialize, including $550 billion from Japan and $600 billion from the European Union.

Chart 10: The deficit rate in fiscal year 2026 may expand to 5.9% Source: Haver, CBO, CICC Research Department

Chart 11: The promised investment scale in the tariff agreement is $1.6 trillion, with $1 trillion in procurement Source: CICC Research Department

► Private Traditional Demand: Suppressed by high interest rates, but expected to recover quickly after rate cuts. Under the pressure of high interest rates, current traditional demand in the U.S., such as manufacturing PMI and real estate sales, is weakening, in stark contrast to the emerging AI industry investments. However, this demand is highly sensitive to interest rates and can quickly improve after rate cuts, forming a third force. The Federal Reserve's rate cuts promote fundamental recovery by improving financial conditions, as has been the case in previous rate cut cycles. Rate cut expectations drive interest rates down and U.S. stocks rebound, leading to improvements in financial conditions and economic data, with the most direct impact on interest rate-sensitive real estate and investment sectors.

How to observe the strength of traditional investment demand?

1) Real Estate: The most direct way is to track monthly existing and new home sales data. It can also be observed through the year-on-year growth rate of residential investment under GDP components (quarterly, published by the U.S. Bureau of Economic Analysis) or the year-on-year growth rate of completed residential construction investment (monthly, published by the U.S. Census Bureau).

2) Manufacturing: The highest frequency and timeliness is the manufacturing PMI. It can also be observed through the year-on-year growth rate of manufacturing investment under GDP components (quarterly, published by the U.S. Bureau of Economic Analysis) or the year-on-year growth rate of completed manufacturing construction investment (monthly, published by the U.S. Census Bureau).

How long does it take for recovery after each rate cut? Real estate recovers first; it had already recovered before the rate cuts in 2019, and rebounded immediately after the rate cut in 2024.

1) Real estate began to recover before the rate cuts in 2019. Long-term bond rates and mortgage rates started to decline from their peak in November 2018, driving existing home sales to bottom out and rebound in January 2019. The year-on-year growth rate of actual residential investment and the year-on-year growth rate of completed residential construction investment also bottomed out and rebounded in the fourth quarter of 2018 and February 2019, respectively; manufacturing PMI bottomed out and rebounded five months after the rate cuts 2) After the interest rate cut in September 2024, existing home sales immediately rebounded, and then the ISM Manufacturing PMI also began to rise in October. This was due to the 10-year U.S. Treasury yield starting to decline rapidly before the interest rate cut, especially accelerating from 4.2% in July to 3.6% before the cut.

Chart 12: Existing home sales rebounded one month before the interest rate cut in 2019, and immediately rose after the interest rate cut in September 2024! Source: Haver, CICC Research Department

Chart 13: Manufacturing PMI rebounded five months after the interest rate cut in 2019, and rebounded one month after the interest rate cut in 2024! Source: Haver, CICC Research Department

What is the current situation? Financial conditions have become looser, and there are initial signs of recovery in the real estate sector. Since the rapid recovery of U.S. stocks in mid to late April, the stock market's rise combined with declining interest rates has driven a rapid improvement in U.S. financial conditions, falling from a high of 100.3 in April to the current 98.6, slightly below the low point after the interest rate cut in September last year (98.7).

1) Real Estate: Financing costs and investment returns have been "very close," and there has been recent recovery. Mortgage rates have fallen by 52 basis points since May, and the current mortgage rate (6.6%) has dropped below the rental yield (6.75%), leading to a marginal boost in existing home sales. From the demand side, real estate still has support, with the number of households forming accelerating since 2025, indicating that the short-term impact of Trump's illegal immigration deportation has not been felt. However, the homeownership rate continues to decline, reflecting that high interest rates still exert pressure on residents' housing affordability. We estimate that the demand gap for homeownership is still about 1.7 million units.

Chart 14: From the perspective of real estate, the mortgage rate (6.6%) fell below the rental yield (6.75%) in July, leading to a marginal boost in existing home sales! Source: Haver, CICC Research Department

Chart 15: The number of households forming has increased since 2025, but the homeownership rate has declined! Source: Haver, CICC Research Department 2) Enterprises: As of the first quarter of 2025, the ROIC (5.8%) of non-financial enterprises still has room for improvement and remains lower than the industrial and commercial loan interest rate (6.3%). We found that the high-yield bond yield, which leads equipment investment growth by about 6 months, has significantly declined year-on-year after April, indicating that equipment investment may see a turning point after October. In addition, the quarter-on-quarter annualized rate of industrial and commercial loans rebounded from 1.3% in the first quarter of 2025 to 8.0% in the second quarter, reflecting the recent easing of financial conditions boosting corporate loans.

Chart 16: From the perspective of enterprises, the industrial and commercial loan interest rate (6.3%) is higher than the ROIC (5.8%) of the non-financial enterprise sector Source: Haver, CICC Research Department

Chart 17: The high-yield bond yield leads equipment investment growth by about 6 months and has recently declined significantly Source: Haver, CICC Research Department

Changes in the market after interest rate cuts? First "easing trade" then "recovery trade"; the dollar and long-term bond yields rebound, U.S. stocks rebound, gold adjusts on average after one month; emerging markets are weaker than developed markets and show internal differentiation.

So, how do interest rate cuts affect asset performance?

First, the "easing trade" of bonds outperforming stocks is a fixed script and a necessary process in every interest rate cut, just like the recent decline in bond yields, rise in gold, weakness of the dollar, and general outperformance of growth and emerging markets.

If we look at the historical experience of the 7 interest rate cut cycles since 1990 and "simply average" them, the winning rates for U.S. Treasuries and gold are highest in the month before the rate cut, reaching 100% and 85.7%, respectively, while the dollar's winning rate is only 14.3%. The winning rate for U.S. stocks is only 57.1% in the three months before the rate cut, but it rises to 85.7% in the month before the cut.

Chart 18: Interest rate cut cycles can be divided into recessionary cuts and preventive cuts Source: CICC Research Department

However, it is a common misconception in the market to infinitely extrapolate the "easing trade" as the main theme throughout the entire interest rate cut cycle.

If interest rate cuts can take effect quickly, then the "easing trade" will quickly switch to the stock outperforming bonds "recovery trade" (such as stabilization or even rebound of interest rates and the dollar, adjustment of gold, and differentiation among emerging markets based on their respective fundamentals). The interest rate cut cycle in 2024 may even start switching to this phase right at the moment of the cut, with the dollar and U.S. Treasury yields hitting bottom. Distinguishing between different interest rate cut cycles is essential for determining when to switch Historical experience from previous interest rate cut cycles shows that, on average, the asset with the highest winning rate one month after a rate cut is the US dollar (85.7%), followed by the S&P 500 and Nasdaq (71.4%).

Chart 19: After the "preventive" rate cuts in 2019 and 2024, there was a gradual shift from "easing trades" to "recovery trades," with long-term interest rates and the US dollar bottoming out and rebounding, gold experiencing a phase adjustment, and US stocks rebounding Source: Bloomberg, China International Capital Corporation Research Department

Chart 20: From the historical "simple average" experience, US Treasuries and gold performed better before the rate cuts, while the US dollar, Nasdaq, and crude oil performed better after the rate cuts Source: Bloomberg, Wind, FactSet, China International Capital Corporation Research Department

However, compared to the simple average of 7 rate cut cycles since 1990, which included 4 recessions, focusing on the 3 more similar "preventive" rate cut experiences in 1995, 2019, and 2024 is more valuable for reference. We found that after the rate cuts, there was a quick shift from "easing trades" to "recovery trades," with the timing varying from immediate to 1-3 months.

Chart 21: In the "preventive" rate cut cycles, US Treasuries, gold, and the Dow Jones performed well before the rate cuts, while the US dollar and US stocks strengthened after the rate cuts, with developed markets outperforming emerging markets Source: Bloomberg, Wind, FactSet, China International Capital Corporation Research Department

► After the rate cuts, the US dollar actually strengthened, and US Treasury yields also bottomed out and rebounded.

When discussing the asset impacts of rate cuts, most people tend to think "Federal Reserve rate cuts → US Treasury yields decline → interest rate spreads narrow → US dollar weakens." However, in fact, we found that in the past 3 rounds of "preventive" rate cuts, the US dollar strengthened without exception within one month after the cuts. The reason is quite simple:

On one hand, there is a problem with the first step of the aforementioned logic chain; the expectations of rate cuts before the actual cuts have already driven US Treasury yields down, and since "preventive" rate cuts do not require significant reductions, long-term yields actually bottom out and rebound after the cuts are realized. Before the Federal Reserve's rate cut in July 2019, long-term US Treasury yields began to decline in April, having already bottomed out before the second rate cut in September. On September 18, 2024, when the Federal Reserve cut rates, the 10-year US Treasury yield almost immediately began to rise from a low of 3.6%, and the US dollar rebounded from a low of 99 at the end of September to a high of 108.5 in January 2025 On the other hand, monetary policy is not the dominant factor influencing the USD exchange rate; in the long run, the relative growth differential is the core determinant of the USD (The Relationship Between the USD and US Stocks). Therefore, if interest rate cuts can quickly boost demand improvement and fundamental recovery, it would be favorable for the USD.

Chart 22: In the "preventive" interest rate cut cycle, the USD strengthened and US stocks rebounded after each interest rate cut, with the main gains in US Treasuries occurring before the rate cuts Source: Bloomberg, CICC Research Department

Chart 23: In the "preventive" interest rate cut cycle, US stocks and the USD performed significantly better than in the "recessionary" interest rate cuts Source: Bloomberg, Wind, FactSet, CICC Research Department

► US stocks turned to a significant rise one month after the interest rate cut, with the Nasdaq rebounding faster after the cut, while the Dow's performance was more concentrated before the cut and four months after the cut.

The performance of US stocks during the "preventive" interest rate cuts was also significantly better than during the "recessionary" interest rate cut cycle, with both the S&P and Dow showing a 100% increase rate three months and one month before the cut, respectively. The increase before the cut was greater than after the cut, with the Dow recovering somewhat in the later stages after the cut; the Nasdaq performed strongly both before and after the cut, with average annualized increases of 35.6% and 29.9% one month before and after the cut, respectively.

From an industry and style perspective, defensive and growth sectors led as the interest rate cut approached, with small caps outperforming large caps; after the cut, large caps began to outperform small caps, and cyclical sectors gradually recovered. The industries with the highest average annualized gains one month before the interest rate cut were real estate (60.1%), information technology (46.1%), industrials (37.1%), and telecommunications (34.6%). The Russell 2000, representing small caps (28.9%), outperformed the Russell 1000, representing large caps (19.9%), and the S&P Growth (17.1%) also outperformed the S&P Value (2.7%).

After the interest rate cut, large caps began to outperform small caps, with defensive and growth still dominating in the early stages. Within one month after the cut, utilities (38.9%) and information technology (29.6%) led, and technology continued to dominate in the later stages after the cut, while financials and other cyclical sectors showed some recovery.

Chart 24: Defensive and growth sectors led US stocks before the interest rate cut and continued to dominate afterward, but cyclical sectors showed some recovery Source: Bloomberg, Wind, FactSet, CICC Research Department ► Gold experiences a phase of correction one month after average interest rate cuts, while copper rebounds 2-3 months after rate cuts.

Gold benefits more from the boost in liquidity, hence the increase mainly occurs during the "easing trade" before and at the beginning of the rate cuts, followed by a correction. The average annualized return for gold one month before and one month after the rate cut is 19.6% and 70.3%, respectively, while it drops to 11.3% three months after the rate cut.

Before the rate cuts in 1995, gold had already begun to correct, and its performance remained relatively flat after the cuts. After the rate cut in July 2019, gold began to correct from early September to November, with a correction of 6.2%. After the rate cut in September 2024, gold started to correct from the end of October to November, with a correction of 8.7%.

Copper generally starts to rise two months before the rate cut but turns to decline after the cut, rebounding 2-3 months later, with an average annualized increase of 2.1% six months after the cut.

Chart 25: Gold performs better in the early stages of rate cuts, followed by a correction; copper rebounds on average 2-3 months after the rate cut! Source: Bloomberg, CICC Research Department

► "Preventive" rate cuts have limited benefits for emerging markets, with developed markets outperforming emerging ones, especially in the later stages of rate cuts.

Within one month after the rate cut, the average annualized increase for developed and emerging markets is 13.2% and 11.7%, respectively. Six months after the rate cut, developed markets maintain a 12.0% increase with a 100% increase frequency, while the increase for emerging markets drops to 4.4%. The performance of emerging markets shows significant differentiation during the rate cut cycle, with their fundamentals being a decisive factor.

For instance, after the rate cut in 2024, the Chinese stock market surged due to the stimulus of the "924" policy, while other emerging markets like India and Brazil fell by 2.1% and 2.4%, respectively, one month after the rate cut.

Chart 26: Developed markets significantly outperform emerging markets during the "preventive" rate cut cycle! Source: Bloomberg, CICC Research Department

The Chinese market after rate cuts? In the early stages, Hong Kong stocks show greater elasticity and "lead by half a step," but correct after the rate cut; unlike before, this round of rate cuts has already seen a significant rise.

Before and in the early stages of the rate cut, Hong Kong stocks exhibit greater elasticity and react "half a step" ahead, with growth and small caps outperforming. If it is purely a liquidity boost, then Hong Kong stocks show even greater elasticity, often reacting "half a step" ahead when U.S. Treasury yields decline before the rate cut. The Hang Seng Index typically starts to rise two months before the rate cut, although the process involves fluctuations In terms of industry and style, growth, small-cap, and defensive sectors are dominant. One month after the interest rate cut in 2019, healthcare (10%) and consumer staples (7%) led the gains. One month after the interest rate cut in 2024, real estate (43%) and information technology (30%) led the gains. The Hang Seng Small Cap Index, representing small-cap stocks, saw a gain of 20.7% one month after the interest rate cut, which was greater than the 17.0% gain of the Hang Seng Large Cap Index, representing large-cap stocks.

Chart 27: Hong Kong stocks showed greater elasticity than A-shares before the interest rate cut, "leading by half a step"! Source: Bloomberg, CICC Research Department

However, there may be a quick reversal to a pullback after the interest rate cut. In 1995, the Hang Seng Index quickly turned down after the interest rate cut, while in 2019, it began to decline before the interest rate cut. One month after the interest rate cut, the Hang Seng Index fell by 7.4%, while A-shares only began to rise a week after the interest rate cut.

From an industry perspective, within one month after the interest rate cut in 2019, most sectors of Hong Kong stocks, except for healthcare and consumer sectors, were declining, and the same was true for A-shares. This also fully illustrates that the Federal Reserve's interest rate cut is not a decisive factor for the domestic market's performance; domestic fundamentals and policies are more important ("Is the Federal Reserve's interest rate cut a boon or a bane for us?").

Chart 28: For the Chinese market, interest rate cuts are not a decisive factor; domestic fundamentals have a greater impact! Source: Bloomberg, CICC Research Department

If policies are synchronized, market performance will be stronger. For example, after the Federal Reserve's interest rate cut in 2024, the domestic "924" policy's coordination drove A-shares and Hong Kong stocks to surge, rising 20.0% and 17.8% respectively within one month after the interest rate cut. Three months after the interest rate cut, the A-share increase (23.7%) was also greater than that of Hong Kong stocks (11.6%). From an industry performance perspective, one month after the interest rate cut, A-share information technology (43%) led the gains, but cyclical sectors also performed well, with real estate (30%) and finance (29%) following closely behind information technology; Hong Kong stocks also saw real estate (43%) and information technology (30%) leading the gains.

Chart 29: From a style perspective, U.S. stocks are gradually transitioning from small-cap and growth to large-cap and value, while growth and small-cap in Hong Kong and A-shares benefit more significantly! Source: Bloomberg, CICC Research Department

Additionally, the difference in this round of interest rate cuts is that, unlike previous cycles where the Chinese market experienced varying degrees of decline, the domestic market had already risen significantly before the interest rate cut, while inflation in the U.S. is on the rise. Unlike the declines seen in the Chinese market before the interest rate cuts in 2019 and 2024, the A-share market began to rally at the end of June, with the Shanghai Composite Index reaching a 10-year high. After experiencing earlier fluctuations and pullbacks, Hong Kong stocks also turned upward from September 4 onwards, supported by improved liquidity Current market sentiment has been fully reflected.

The current risk premium of the Hang Seng Index is 5.1%, having surpassed this year's low of 5.7% during the AI rally in March and last year's low of 6.0% in early October. The risk premium of the CSI 300 is also 5.1%, similarly close to last year's low of 4.9% in early October. Therefore, under relatively optimistic sentiment, the extent to which the Federal Reserve's interest rate cuts can provide additional marginal boosts will depend on internal policy coordination.

Chart 30: The current risk premiums of the A-share and Hong Kong stock markets have both fallen to low levels Source: Bloomberg, CICC Research Department

How to trade? U.S. Treasuries and gold are strong at first and weak later; the U.S. dollar is weak at first and strong later; buy U.S. stocks on dips, chasing technology in a pro-cyclical manner; the Chinese market focuses on fundamental structures and mapping opportunities.

So, how do interest rate cuts affect asset performance?

First, the "loose trading" of strong bonds and weak stocks is a fixed script and necessary process during each rate cut cycle, just like the recent decline in bond yields, rise in gold, and weakness in the U.S. dollar, with growth and emerging markets generally leading.

Looking at the historical experience of 7 rate cut cycles since 1990 through a "simple average," the win rates for U.S. Treasuries and gold are highest one month before the rate cut, reaching 100% and 85.7%, respectively, while the win rate for the U.S. dollar is only 14.3%. The win rate for U.S. stocks is only 57.1% three months before the rate cut, but rises to 85.7% one month before.

Based on the comparative analysis above, the Federal Reserve does not need to cut rates significantly; demand is expected to recover after the cuts, so we should first see a "recovery trade" of strong stocks and weak bonds, followed by a "loose trade" of weak stocks and strong bonds.

We estimate that the current expectations for interest rate cuts across various assets are as follows: interest rate futures (5 times) > U.S. Treasuries (2.8 times) > Federal Reserve dot plot (2.5 times) > copper (1.8 times) > gold (1.5 times) > S&P 500 (1.3 times) > Dow Jones (1.1 times) ≈ Nasdaq (1.1 times). This indicates that long-term rates and precious metals have already priced in significant expectations for rate cuts, while U.S. stocks have priced in relatively few expectations. Specifically:

Chart 31: Current expectations for interest rate cuts across various assets: interest rate futures (5 times) > U.S. Treasuries (2.8 times) > Federal Reserve dot plot (2.5 times) > copper (1.8 times) > gold (1.5 times) > S&P 500 (1.3 times) > Dow Jones (1.1 times) ≈ Nasdaq (1.1 times) Source: Bloomberg, CICC Research Department

► U.S. Treasuries: Short-term expectations are relatively fully priced in, with a central range of 3.9% to 4.1%, initially strong and then weak, initially long and then short. Given that the current long-term bonds have already priced in many expectations for rate cuts, and that the Federal Reserve does not need to cut rates significantly in this cycle, the improvement in demand after the rate cuts may further lower expectations for rate cuts, leading to a rebound in long-term bond yields, while short-term bonds are more closely related to monetary policy Performance after interest rate cuts may be relatively better.

We estimate that if interest rates return to neutral levels, under the baseline scenario, two interest rate cuts within the year correspond to a 10-year U.S. Treasury yield center of 3.9% to 4.1%. It is advisable to continue holding in the short term until the expectations and effects of interest rate cuts are fully realized, shifting from the long end to the short end.

Chart 32: 10-year U.S. Treasury yield center at 3.9% to 4.1%, a peak is a reallocation opportunity Source: Bloomberg, CICC Research Department

► U.S. Stocks: May rebound after interest rate cuts, optimistic scenario S&P 6700, pullbacks provide better entry opportunities; structurally, technology and cyclical sectors may dominate. Previously, we clearly raised the U.S. stock index target to a baseline scenario of 6200-6400 and an optimistic scenario of 6700 (Why is the risk premium in U.S. stocks so low?), and the market is currently moving towards our optimistic target.

Looking ahead, the Federal Reserve's interest rate cuts, the improvement in the fiscal pulse for the new fiscal year in October, or the recovery of the credit cycle, combined with recent upward revisions in earnings expectations, remain favorable for U.S. stocks. Any pullbacks may provide better buying points. Structurally, we recommend focusing on technology (initial liquidity boost + continued acceleration of AI capital expenditure) and cyclical sectors (which may gradually catch up after interest rate cuts).

Chart 33: Baseline scenario S&P center at 6200-6400, optimistic 6700, pullbacks provide better buying points Source: FactSet, CICC Research Department

► U.S. Dollar: Weak first, then strong, expected to rebound slightly after fundamental improvement. Our previous analysis shows that after each round of "preventive" interest rate cuts, the U.S. dollar has strengthened. We believe that if this round of interest rate cuts can quickly promote demand improvement and fundamental recovery, there is also a basis for a slight strengthening of the dollar. Our dollar liquidity model indicates that the dollar will continue to fluctuate in the short term, with a slight recovery expected by the end of the year.

Chart 34: Our dollar liquidity model shows fluctuations in the dollar in the second half of the year, with a recovery expected in the fourth quarter Source: Bloomberg, CICC Research Department

► Gold: Asymmetrical risks in both directions, suitable for holding; there is a risk of short-term pullback and switching to copper after interest rate cuts are realized. Our three-factor model of the dollar, real interest rates, and uncertainty indicates that if uncertainty remains at the average level since the Russia-Ukraine conflict, the current dollar (98) and real interest rates (1.7%) correspond to a reasonable gold price level of $3400 to $3600 per ounce. We believe the long-term trend for gold remains valid, but the short-term gains may primarily occur before the interest rate cuts, with a certain pullback risk one month after the cuts ► Chinese Market: Short-term boosted by liquidity, Hong Kong stocks show better resilience and lead, small caps and growth may outperform; if domestic policies do not reinforce this performance, more attention should be paid to the structural support of fundamentals and the opportunities reflected in the US-China relationship.

In the current market sentiment, which is relatively optimistic, if there are no further domestic policy supports in the future, then the impact of the Federal Reserve's interest rate cuts may be limited. Attention can be focused on 1) sectors with improving fundamental prosperity, such as innovative drugs, technology hardware, non-ferrous metals, non-bank financials, consumer electronics, etc., which have high prosperity (see "Hong Kong Stock Operation Strategy Under Current Market Conditions"), 2) US-China mapping chains, such as tools, home decoration, and furniture related to the US real estate chain, as well as non-ferrous metals and machinery related to investment.

Chart 35: After the Federal Reserve's interest rate cuts in 2024, sectors related to the US real estate chain and investment-related non-ferrous metals will benefit

Authors: Liu Gang, Xiang Xinli, Source: Kevin Strategy Research, Original Title: "What Will Happen After the Rate Cuts? - A Discussion on Historical Experiences of Rate Cuts"

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The market has risks, and investment should be cautious. This article does not constitute personal investment advice and does not take into account the specific investment goals, financial conditions, or needs of individual users. Users should consider whether any opinions, views, or conclusions in this article are suitable for their specific circumstances. Investment based on this is at one's own risk