NEW YORK—Fears that policy makers are running out of options to revive a slowing global economy sent investors out of stocks and into the safe haven of the dollar, the yen and U.S. Treasurys.
A key trigger for the reversal of investor sentiment was Tuesday's policy statement from the Federal Open Market Committee. Although the Fed resolved to deliver modestly more liquidity to the market by reinvesting proceeds from its mortgage-backed securities holdings, investors are now wondering whether this will be enough given how much the Fed downgraded its assessment of the economy in that same statement.
Also helping the selloff in growth-sensitive assets was a flurry of economic news from around the world. China saw a decline in retail sales, machinery orders were down in Japan, and the Bank of England downgraded its outlook for the U.K. economy.
"There is no way to 'sugar coat' the concern we have about the post FOMC," price movements, wrote Citigroup foreign-exchange analysts. They said stocks should have pushed higher on the Fed's decision, while the dollar should have weakened against growth-sensitive currencies, but that didn't happen. "The only move that fully transpired was the fixed income move," as yields, which move inversely to prices, headed lower, they added.
Stocks plunged in the U.S., with the Dow Jones Industrial Average down nearly 200 points, or 1.9% in recent trade at 10446 and the S&P 500 was off by 2.2% at 1096.
The benchmark 10-year Treasury note was up 17/32 for a yield of 2.706%, the lowest since April 2009, and the two-year note up 1/32 to yield 0.505%. The bond market's months-long rally is now supported by a range of added factors: by the Fed's commitment to reinvest its maturing mortgage bond payments into Treasurys, by the expectations of slowing global economy, and by the safe-haven flows from stocks and other risk assets.
"We see the market establishing a new yield range at lower yields," said John Briggs, U.S. interest rate strategist at RBS Securities Inc in Stamford, Conn. RBS has downgraded its forecasts for the 10-year yield's range, lowering its upper-end target from 3.33% to between 3% and 3.12% and setting a lower-end forecast as far down as 2.50%.
Data on Wednesday brought more worrisome trends: the U.S. trade deficit expanded an unexpected $10 billion to a 21-month high of $49.9 billion. That spotlighted the ongoing concern about structural imbalances in the global economy that place too much of a burden on the U.S. consumer and are likely to ignite protectionist demands in the U.S.
If the dollar were to decline it would help redress some of that imbalance by boosting U.S. exports. But the opposite happened on Wednesday. With safe-haven flows dominating all other considerations, the U.S. currency was up sharply against the euro but down sharply against the ultimate safe-haven currency, the yen.
The euro was recently quoted at $1.2970, down from $1.3184 late Tuesday, its first time below $1.30 since July 30. The dollar was at 84.96 yen, down from 85.36 yen late Tuesday after hitting a 15-year low overnight at 84.72 yen.
"The currency market was moving on these fears about growth," said Jessica Hoversen, fixed-income and foreign-exchange analyst at MF Global in Chicago. "Two major economies downgraded their forecasts, with the Fed suggesting a very tepid recovery, and the Bank of England doing the same thing." Ms. Hoversen predicted that dollar could fall to 80 yen.
Meanwhile, confusion over what the Fed's move signifies was evident in a decision by the Federal Home Loan Banks to call off its scheduled global bond issue as market participants said they need time to understand how it will play out in the agency debt markets.
Fears over waning global demand also hit commodities markets. Oil futures slumped after the International Energy Agency warned oil demand could take a substantial hit should economic growth falter.
Light, sweet crude for September delivery recently traded $1.27, or 1.6%, lower at $78.98 a barrel on the New York Mercantile Exchange. Brent crude on the ICE futures exchange traded $1.20 lower at $78.40 a barrel.
"It is not only the Fed worried about a slowdown in the economy, it seems that the International Energy Agency is as well," said Phil Flynn, an oil analyst with PFGBest, in a client note. "From a demand standpoint it is not very encouraging."
Gold prices rallied, seemingly because some investors continue to fear an eventual inflationary impact from added Fed stimulus but also reflecting the general desire for a safe haven amid the turmoil in financial markets.
The most actively traded gold contract, for December delivery, was recently up $9.80, or 0.8%, at $1,207.80 an ounce on the Comex division of the New York Mercantile Exchange.
"The Fed's commitment to maintaining liquidity and its deteriorating growth outlook are broadly speaking bullish for gold," said Standard Bank analyst Leon Westgate.
