Market Optimism as Federal Reserve Signals No Immediate Rate Cuts
Despite this endurance however, investors remain vigilant for signs of a slowdown in rate increases. As of now, Wall Street awaits the Federal Reserve's rate-hiking cycle conclusion – hoping for a pause but anticipating delays in rate cuts.
In May, the Fed raised rates by a quarter point, signaling a potential pause in June and a rate cut in July. However, experts believe an immediate rate cut is unlikely unless the economy falters, excluding a US debt default.
The current shared insight is that a rate-hike pause could benefit stocks more than a cut.
What Evidence Points That July Rate Cut Is Unlikely?
Key reasons deter the Federal Reserve from cutting rates in the near future. First, inflation, although stabilizing, remains above the target of 2%, with the Personal Consumption Expenditures price index rising 4.2% in the past 12 months.
Secondly, the American unemployment rate is at a historical low and housing market demand remains persistent. All of these offer no convincing evidence that’ll persuade the Fed to shift towards rate cuts, at least for now.
Kara Murphy, Chief Investment Officer at Kestra Investment Management, notes that the Fed rarely cuts rates without a crisis. In fact, the last rate cut occurred in March 2020 due to the onset of the COVID-19 pandemic.
What about the recent bank collapses of Silicon Valley Bank, Signature Bank and First Republic Bank, you may ask. While these have raised concerns, they have mostly affected regional banks, and overall financial and economic leaders affirm the stability of the banking sector.
Liz Ann Sonders, Chief Investment Strategist at Charles Schwab explains that for the Fed to consider rate cuts in July, a severe downturn in the banking sector, labor market, or economy would be necessary.
Sonders adds that the Fed would risk losing credibility if they transitioned from rate hikes to cuts without a valid reason of the required scale.
Just In Case, How Could a Badly Timed Rate Cut Affect Us?
History shows that stocks typically underperform following a pivot as big as a Fed-imposed rate cut. Credit Suisse noted that the S&P 500 has historically risen 16.9% in the year after the last hike of a rate cycle, but fallen 1% in the 12 months after the first rate cut.
The Credit Suisse analysts also noted that if the Fed were to ease rates in July, the upside for stocks would be limited.
Cutting rates prematurely could have serious consequences for the economy, as demonstrated by the missteps of former Fed Chair Arthur Burns. Said historical economic blunder saw exacerbated inflation and a triggering of back-to-back recessions that drove the unemployment rate as high as 10%.
These missteps have since then been acknowledged and the Fed has since signaled the unlikelihood of lowered rates this year, reaffirming its commitment to slowing down the ongoing inflation.
While a rate cut isn't completely out of the question, Wealth Enhancement Group's Nicole Webb suggests that the Fed may gradually pace the rate down to 2.5% to avoid triggering inflation.
