As US Rates Reach 6%, Global Investors Consider The Possible Ramifications

Currently, a full percentage point of Fed rate increases over the upcoming four meetings is priced in by swaps traders.

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The possibility of US interest rates reaching 6% is suddenly serious enough for investors to change their plans.

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BlackRock Inc. and Schroders Plc are two participants in the discussion on what would happen if US interest rates peaked at 6%. Investors in the bonds, stock, and money markets still are calling for the end of increasing interest rates at the end of February, anticipating a significant rebound in the second half.

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Conversely, expectations of a larger boost this month are being fueled by Federal Reserve Chair Jerome Powell's testimony on Tuesday, with investors pricing in peak rate of 5.6% with less than 5% at the end of the previous year. The dollar has recovered, Treasury traders are increasing their bets on a recession, and equities markets, from the S&P 500 Index to a MSCI Asia Pacific index, are giving up gains.

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According to Rick Rieder, chief investment officer for global limited income at BlackRock, "we think there's a reasonable risk that the Fed will have to raise the Fed Funds rate to 6% and then maintain it there for a protracted period to slow the growth and get inflation down to near 2%."

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The Federal Reserve's most recent rhetoric, which contrasts sharply with counterparts in Australia and Canada's milder attitude, paves the way for the central bank to return to a half-point raise. Meanwhile, the bond market, which signals the increasing likelihood of a recession, is escalating concerns about a rough landing for the US economy.

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Currently, a full percentage point of Fed rate increases over the upcoming four meetings is priced in by swaps traders.

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According to Kellie Wood, deputy head of limited income at Schroders Plc in Australia, "a 6% terminal rates is not out of the question right now. Expect a widespread selloff in Australian and Asian markets today, driven by the losing end but with underperformance in US rates.

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For the first time since 1981, when Paul Volcker, the then-Chairman of the Federal Reserve, pushed for rate increases to combat double-digit inflation, the spread between 2- and 10-year rates is showing a discount greater than a percentage point in the US. The yield inversion indication has over the years anticipated downturns in the wake of vigorous Fed tightening operations.

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As the likelihood of a US recession increases, commodity currencies have fallen, with the Australian dollar down 2% on Tuesday. After increasing 1% the day before, the Bloomberg Dollar Spot Index rose to its highest level since early January on Wednesday. The yen is once more getting close to the 140 mark against the dollar.

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Prior to Powell's remarks yesterday night, John Bromhead, a currency analyst at Australia & New Zealand Banking Group Ltd., said, "We were more tempted to try shorting USD/JPY around the 137-138 level I now we would likely hold off on that, with Fed terminal rate very possibly heading to 6%.

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Developing Nations

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Although Beijing's moderate economic growth objective earlier this week disappointed hopes of a continuation of the reopening boom that supported global markets earlier, the Fed's language runs the danger of deteriorating the outlook for emerging-market assets. The South Korean won fell 1.8% on Wednesday, serving as a proxy for risk sentiment in Asia.

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Brendan McKenna, emerging - market strategist at Wells Fargo in New York, stated that "higher-for-longer has become the base-case scenario," adding that if that scenario comes to pass, EM could suffer. Investors had high hopes for an early Fed pause and rate decreases this year, but that scenario has not yet materialized.

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Yet, some stock market buyers perceive possibilities.

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Sat Duhra, fund manager at Janus Henderson Investors, stated that he anticipates a continued shift away from South Asia in favor of the more cyclical and affordable economies of North Asia. Third, higher-quality North Asian technology firms, particularly semiconductors, are starting to seem appealing on a valuation basis. This industry should actively participate in any earnings recovery.

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