The US Federal Reserve made its long-awaited cut on Wednesday after four years of increases. At a meeting of its Federal Open Market Committee (FOMC), the group voted 11 to one for the change.
The changes to the market could affect insurers’ investment portfolios, which have been seeing healthy returns in the ‘higher for longer’ environment.
“Recent indicators suggest that economic activity has continued to expand at a solid pace,” said the press release on the change. “Job gains have slowed, and the unemployment rate has moved up but remains low. Inflation has made further progress toward the Committee's 2% objective but remains somewhat elevated.”
“The Committee has confidence that inflation is moving toward 2%, and judges that the risks to achieving its employment and inflation goals are in balance."
The cut also comes less than two months out from the US presidential election where the economy and the cost of living remained one of the top issues for voters.
The Committee’s statement said it sought to “achieve maximum employment and inflation at the rate of 2% over the longer run”.
“The Committee has gained greater confidence that inflation is moving sustainably toward 2%, and judges that the risks to achieving its employment and inflation goals are roughly in balance,” it said. “The economic outlook is uncertain, and the Committee is attentive to the risks to both sides of its dual mandate.”
They said that “in light of the progress on inflation and the balance of risks”, the Committee decided to lower the target range for the federal funds rate by 0.5 percentage points to 4.75 to 5%.
“In considering additional adjustments to the target range for the federal funds rate, the Committee will carefully assess incoming data, the evolving outlook, and the balance of risks,” they said. “The Committee will continue reducing its holdings of Treasury securities and agency debt and agency mortgage‑backed securities.”
Industry reaction was swift to the much-discussed cut. “The Federal Reserve has entered the race at pace, opting for the jumbo option, cutting headline interest rates by 0.50,” said Isaac Stell, Investment Manager at Wealth Club.
“Despite there being no significant economic woes on the radar, policy makers have decided to get ahead of the curve as recent payroll reports have shown a gradual slowdown in the jobs market.”
Elsewhere, The Federal Reserve was said to have “[chosen] to frontload monetary normalisation by cutting by 50bps and indicating a total 100bps of easing this year”.
“It's a step towards shifting the investor mentality from risk off to risk on."
Originally many analyses had predicted as many as five rate cuts in the course of 2024, but sticky inflation had caused delays to this. In a statement on LinkedIn, real estate giant Cushman and Wakefield’s Global Chief Economist, Kevin Thorpe, said the “cut should help move some of the tremendous dry powder - roughly $380 billion today - off the side lines, because, it signals that the commercial real estate sector is likely at the cusp of the next growth cycle”.
“It's a step towards shifting the investor mentality from risk off to risk on,” Thorpe said.
The Bank of Canada, the European Central Bank, and the Bank of England have all made cuts so far this year though many were unconvinced by the overall health of the global economy. “The underlying fundamentals for the moment remain weak and businesses are calling for the government to support policies in the budget that promote investment to ensure sustainable long-term return to faster growth and increased prosperity,” said economist Vicky Pryce in an interview with Insurance Investor this week.
“This is because if you leave interest rates too high, and it lasts for some time, then eventually it hits the economy, and that's where we are now,” she said.
“Rate cutting is expected to end by 2026 at the 2.75%-3% range. The neutral rate was raised by another 0.1 percentage point to 2.9%,” said a statement from Paolo Zanghieri, Senior Economist at Generali Investment.
“Among the many changes to the press release, two stood out: increased confidence in disinflation and the recognition that risks to price stability and unemployment are roughly balanced,” said Zanghieri. “Growth projections remained unchanged at 2% for the next three years, slightly above the trend growth of 1.8%. Expected unemployment was revised up, with the median projection peaking at 4.4% next year.”
“Powell tried to dispel fears about a recession, even though the FOMC perceived risks to unemployment have risen materially over the last meetings."
He said that inflation was projected to converge to 2% faster than expected in June. “The FOMC pencilled in another 100-bps easing for next year and a final 50-bps in 2026, which would bring the policy rate within the 2.75-3% range, but with substantial upside risk. As in the June meeting, the neutral rate was nudged up by 0.1 percentage points to 2.9%,” he said.
“In the Q&A session, Chair Powell tried to dispel fears about a recession, even though the FOMC perceived risks to unemployment have risen materially over the last meetings,” Zanghieri said.
He said that Powell characterised the state of the labour market as “slightly softer than the very good level of 2019”, but still very close to the maximum employment dictated by the Fed mandate.
“The “recalibration” of the policy stance is aimed at keeping it around that level. He spent relatively little time discussing inflation. It is early to claim victory, but the pace of improvement over the last months increased confidence in the strength of disinflation,” he said. “The still-high level of housing inflation is just due to lags.”
Other central banks are also meeting this week. Brazil’s central bank raised its interest rate by 25 bps – the first hike in two years.
Elsewhere, the Bank of England, Norway’s Norges Bank, and South Africa’s Reserve Bank will all have meetings on Thursday, which could see more changes.
In Q1 this year many US insurance companies saw good investment results, which several said was at least partly due to their fixed income returns being up.
They also highlighted the duality of underwriting and investment income as essential for companies in the current market.
In Q2, most companies again reported healthy results with many attributing it to the high-interest rate environment.
Insurers such as Hanover Insurance Group, SiriusPoint, and Markel expressly put their healthy investment returns down to higher interest rates and the resulting bump. “We expect the current interest rate environment to continue to provide an accumulating benefit of higher investment yields,” said Jeffrey Farber, Executive Vice President and Chief Financial Officer of Hanover.
The cut could mean a different picture for Q3 for these results, which will start to be released in October.
