The Federal Reserve shocked market participants on Tuesday after announcing an aggressive 50-point rate cut. The move was intended to shore up liquidity in an effort to combat the economic impact of the coronavirus.
Unfortunately, the big rate reduction did not drive the Dow Jones Industrial Average higher as expected. On the contrary, the index ended the trading day down nearly 3% despite the Fed’s intervention. This indicates that the market is pricing in factors that cannot be solved by loose monetary policies.
Over the last two decades, we’ve seen six instances where the Fed reduced rates by 50 basis points or higher. Every single one of them preceded a bear market.
Since 2001, the Fed has been introducing emergency rate cuts of 50 basis points or higher in an attempt to avert a crisis. History tells us that this strategy doesn’t work. If anything, it’s a sign that the stock market is headed for a monumental collapse.
In 2001, the Federal Reserve cut rates by 0.5% three times within six months. The stock market dumped over 30% despite the central bank’s intervention.
It’s the same story in 2007 and 2008, where the Fed introduced three aggressive rate reductions. The result? A massive stock market collapse of over 50%.
It appears that history is showing that emergency rate cuts are desperate measures. The Federal Reserve knows there’s a big crisis coming but its measure likely won’t stop the bleeding.
The stock market tanking in spite of the Fed’s emergency intervention is a signal that the risk of the coronavirus to the economy is bigger than anticipated. That statement appears to be true as the World Health Organization (WHO) released new figures regarding the mortality rate of the coronavirus.
On Tuesday, WHO officials said that the global death rate for the COVID-19 is actually 3.4%. This number is significantly higher than the previous estimate of 2.3%. The seasonal flu has a mortality rate of 1%.
WHO Director-General Tedros Adhanom Ghebreyesus said in a press conference in Geneva,
Globally, about 3.4% of reported COVID-19 cases have died.
WHO official Dr. Mike Ryan paints an ominous picture of how little we understand about the virus,
Here we have a disease for which we have no vaccine, no treatment, we don’t fully understand transmission, we don’t fully understand case mortality.
In the United States, there are now 122 confirmed cases and nine total deaths. Globally, the number of confirmed cases soared above 93,000.
Hedge fund manager Will Meade sums up the magnitude of the impact of the virus to the economy.
The last time the FED did an emergency 50 point rate cut was after Lehman collapse in 2008. Anyone tells you the coronavirus isn’t a big deal is either stupid or naive.
As illustrated, an emergency rate cut often doesn’t bode well for the stock market. Will Meade echoes this view. The former Goldman Sachs analyst said that an emergency rate cut this big means that the economy would tank this year.
This sentiment is confirmed by a new Brookings Institution study. Brookings concluded that the mild coronavirus pandemic would wipe out around $420 billion from this year’s growth. In 2019, the current-dollar GDP surged by 4.1% or $848 billion. In other words, the least severe scenario effectively halves 2020’s economic expansion.
If worse comes to worst, Brookings projects that coronavirus will obliterate $1.78 trillion from GDP growth. According to the study, global GDP would contract by over $9 trillion in case the global pandemic leads to a “more serious outbreak similar to the Spanish flu.”
In either case, the economy and the stock market have a bleak outlook this year. It’s likely that no amount or quantity of rate cuts will stop the Dow Jones from plunging into a bear market.
The above should not be considered trading advice from CCN.com. The opinions expressed in this article do not necessarily reflect the views of CCN.com.