As an investor, how does a half a percentage point cut in the Federal Reserve’s key interest rate affect portfolio returns?
Rate cuts evoke different emotions for different individuals. Companies and investors may rejoice for cheaper debt, while others may be wary of economic uncertainty on the horizon. After all, our recent experiences with quantitative easing have been during periods of uncertainty and recession. While the Federal Reserve decides to tighten or ease the money supply based off inflation data, many other aspects of our lives are affected by these decisions. Mortgages, investments, even job openings can be linked to access to cheaper debt.
While the macro-economic factors during each rate cycle are different, we can look at the returns of the S&P500 after rate cuts to get an idea how markets have performed in the past. It is important to note that over time there have been many rate cutting cycles and not all economists and institutions agree on what they define as the beginning and end of such a cycle. When sourcing data for rate cuts and historical S&P500 performance discrepancies were found in this definitional start date. However, the data surrounding the performance of the S&P500 after the cut is still sound, and can be analyzed.
Data from PinPoint Macro Analytics shows 15 different periods of rate cuts since 1973 and the performance of the S&P500 performance during a period of 3, 6, and 12 months. From the data, we see on average the market is positive 6 and 12 months after rate cuts but slightly negative over a 3-month period. It’s important to remember different macro-economic factors existed in all of these time periods and rate cuts themselves may not have directly contributed to these performance metrics.
Data from Charles Schwab, Bloomberg, and the Federal Reserve tell a slightly different story.
When looking at a longer period of time, since 1929, the data set only identifies two periods of negative 12-month S&P500 performance after the beginning of a rate cut cycle. It is important to note that the dates provided from this data set do not all match. While the two negative performance periods are more recent, it’s important to note that the dot com bubble and great recession were significant tail end events that do not reflect today’s macro environment. Additionally, while November 1929 to November 1930 may have had a slightly positive performance, the S&P500 performance over the years of 1929 through 1932 saw negative S&P500 performance, the longest and steepest period of negative performance in this dataset.
Now that rates have begun to decline, what does history tell us? Aside from S&P500 performance showing positive trends over a 12-month period, treasury yields, bond prices, mortgage rates, and the strength of the US dollar all show historical changes correlated to the beginning of rate cuts. Treasury yields generally move inversely with bond prices. During rate cut cycles treasuries decrease in yield while the price of existing bonds rise. Mortgage rates also decline during rate cuts, but these declines may be less pronounced initially and follow the 10-year treasury yield. Mortgage rates also can be affected by the demand for mortgages as well.
While the Federal Reserve has signaled the end of a higher interest rate environment brought about by high inflation in 2021, what’s next for interest rates is not clear. Currently, it is unlikely we will resume an era of low interest rates seen in the 2010’s. Inflation remains sticky in the housing sector, and how low the fed will go in lowering rates remains unknown. Overall, it is important to remember that the rise and fall of interest rates have correlation to market performance but are not the only things that affect them. A long-term financial plan should still remain steadfast in the face of falling interest rates, as over any long-term investment period rates will fluctuate.
We recommend you speak with your financial advisor to ensure your investment portfolio is in alignment with your long-term goals. If you don’t have a financial advisor and would like to meet with a member of EVOadvisers, please follow this link to schedule time with an advisor.
Jack O’Brien CIMA® is a Certified Investment Management Analyst educated at Chicago Booth School of Busisness and Virginia Tech. EVOadvisers is a fee-only financial advisor based in the Scott’s Addition area of Richmond, Virginia. EVOadvisers also has an office in Irvington, Virginia to better serve clients in the Northern Neck of Virginia. If you have any questions about financial planning and would like to talk with one of our Certified Financial Planner professionals, check us out at www.evoadvisers.com or call (804)794-1981.
Sources
· https://fred.stlouisfed.org/series/FEDFUNDS
· https://www.visualcapitalist.com/sp-500-performance-after-interest-rate-cuts/
· https://www.schwab.com/learn/story/what-past-fed-rate-cycles-can-tell-us
· https://www.reuters.com/graphics/USA-MARKETS/RATES/jnvwamonqvw/
· https://elements.visualcapitalist.com/wp-content/uploads/2024/08/1723523669679.pdf
· https://www.macrotrends.net/2526/sp-500-historical-annual-returns