Fed Holds Steady, "Hawks" Cry Out: How the Federal Reserve Decision Reshapes Multi-Asset Allocation

The highly anticipated Federal Reserve March interest rate decision has been announced.

On the early morning of March 19, Beijing time, the Federal Reserve announced that the target range for the federal funds rate remains unchanged at 3.5% to 3.75%. However, whether it is Fed Chair Powell repeatedly emphasizing a wait-and-see stance or the Fed further raising its inflation forecast for 2026, these factors add uncertainty to the Fed’s rate cut path this year and have led to a collective decline in U.S. stocks and a noticeable adjustment in international gold prices.

How much room does the Fed have for rate cuts this year? What is the risk of stagflation in the U.S. economy? In response, several interviewees told China Securities Journal that whether the surge in international oil prices will substantially hinder the Fed’s subsequent rate cut path depends on whether high oil prices will lead to a significant rise in medium- and long-term inflation expectations. Regarding asset allocation, the focus should shift from chasing trends to controlling volatility and embracing odds, with energy, financials, and essential consumer goods sectors offering better value due to their pricing power and stable cash flows; short-term gold faces shocks but the medium- and long-term bullish outlook remains unchanged.

Stagflation concerns suppress rate cut expectations

Prior market expectations for the Fed’s unchanged rate decision were relatively clear: externally, geopolitical conflicts in the Middle East triggered a sharp rise in international oil prices, heightening concerns about a rebound in U.S. inflation; domestically, the U.S. economy’s relatively steady expansion also led markets to generally expect the Fed to remain on hold in the short term.

From the March meeting results, it’s evident that the Fed has begun to consider the Middle East situation and the surge in oil prices in its rate decision. Cinda Securities Chief Macro Analyst Jie Yunliang believes that the Fed is overall in a cautious observation phase: “The statement mentioned the impact of Middle East developments but said ‘the development of the Middle East situation remains uncertain for the U.S. economy’; Fed officials slightly raised their inflation forecasts for PCE for this year and next, and also slightly increased GDP growth projections, indicating that officials generally expect oil prices to rise modestly and push inflation higher, but not enough to trigger stagflation.”

For the Fed, which has a dual mandate to promote employment and stabilize prices, employment conditions are another key factor influencing its rate adjustment path. According to Zhang Yu, Chief Economist at Huachuang Securities, the U.S. labor market’s recovery is not yet solid, but inflation could rise significantly due to international oil shocks, intensifying concerns about stagflation. Facing this dilemma, the Fed may have to choose “the lesser of two evils.” Looking ahead, whether the surge in oil prices will materially hinder the Fed’s rate cut path depends on whether high oil prices will lead to a notable rise in medium- and long-term inflation expectations.

Dong Zhongyun, Chief Economist at AVIC Securities, believes that for the Fed’s decision-making, the current impact of international oil prices has shifted from a normal variable to a dominant source of uncertainty. If ongoing conflicts keep oil prices at high levels for a long time, the Fed could face stagflation, with inflationary pressures delaying rate cuts or even erasing room for cuts, while recession risks could push the Fed toward easing policies. “The uncertainty of geopolitical conflicts causes oil prices to rise, which exerts dual pressure on consumption and employment, making the Fed’s policy path more uncertain to some extent.”

Oil prices may become a key decision-making variable

The concerns mentioned above do not necessarily mean that the Fed’s rate cuts this year will be “missed.” According to the “dot plot” of interest rate projections released by the Fed on March 19, the guidance still indicates one rate cut in 2026 and 2027 each, but the number of members expecting no rate cuts in the next two years has increased significantly, showing a clear reduction in easing expectations.

Interviewees unanimously agree that international oil prices have become the dominant variable in determining the Fed’s policy pace, and inflation expectations will largely influence subsequent decisions.

“Given that the labor market still needs further rate cuts to support recovery, if Middle East conflicts ease and oil prices gradually fall, the Fed’s rate cut logic will be more straightforward, possibly cutting two to three times in the second half of the year; if oil prices stay high but medium- and long-term inflation expectations remain stable, the Fed could still cut rates to counteract the overall inflation rebound,” Zhang Yu said.

Based on the outlook for international oil prices, Dong Zhongyun foresees two scenarios: if oil prices stay above $90 per barrel long-term, the U.S. economy could enter a “stagflation-like” state, with rising inflation risks and falling employment risks simultaneously, greatly shrinking the Fed’s policy space, possibly forcing it into a passive rate cut; if oil prices spike briefly and then fall back to $80–85 per barrel, the Fed will focus again on core inflation and employment data, and is likely to implement a “one-time” preemptive rate cut in the second half (September or December) to hedge against economic slowdown.

Balancing volatility control and odds embrace

Risk aversion in global markets has transmitted to China. On March 19, the A-share market experienced a notable correction, with resource sectors like metals and steel leading declines. In the face of many uncertainties, how should investors adjust their asset allocations to hedge risks?

“Under current circumstances—geopolitical conflicts unresolved, Fed rate cut paths delayed and full of uncertainty—the core of asset allocation should shift from trend chasing to balancing volatility control and odds embrace,” Dong Zhongyun advised. Investors could reduce allocations to overvalued growth sectors and increase holdings in large-cap value sectors, where pricing power and stable cash flows are more prominent, such as energy, financials, and essential consumer goods. Additionally, they can position for high-odds assets, focusing on deeply corrected opportunities with ample negative pricing already priced in.

Based on the baseline assumption of sustained high oil prices and increased input inflation risks, Jie Yunliang is optimistic about three asset classes: first, as oil prices rise and costs propagate downstream, agricultural product prices are likely to increase in the second half; second, the resonance of domestic “anti-involution” narratives and global re-industrialization trends could benefit heavy industries; third, with ongoing domestic factor market reforms, especially in electricity pricing, the utility sector may see price increases and profit recovery.

Despite escalating Middle East conflicts, gold—traditionally seen as a safe haven—fell instead of rising. As of 21:10 Beijing time on March 19, COMEX gold futures and London spot gold both fell below $4,600 per ounce.

Regarding the reasons for the gold price correction, Zhang Yu said it may be due to market expectations of a rapid cooling of Fed rate cut expectations and a strong rebound in the dollar index, as well as liquidity shocks caused by a quick decline in risk appetite. However, these short-term shocks do not alter the medium- and long-term bullish outlook: “We are currently in a rare period of global order restructuring, and allocating gold in a diversified asset portfolio can significantly improve risk-adjusted returns.”

For assets like U.S. stocks and bonds that are directly affected by Fed rate changes, Yang Chao, Chief Strategist at China Galaxy Securities, believes that rising interest rate levels and risk premiums suppress U.S. stock valuations. The energy and resource sectors are relatively favored, while growth sectors experience increased volatility. Regarding U.S. bond yields, influenced by delayed rate cuts and upward revisions in inflation expectations, short-term rates remain sticky at high levels, and the long-term rate center has shifted upward.

(Article source: China Securities Journal)