Barbara Reinhard, CFA
Senior Managing Director, Chief Investment Officer, Multi-Asset Strategies and Solutions
“Inflation has declined significantly. The labor market is no longer overheated, and conditions are now less tight than those that prevailed before the pandemic. Supply constraints have normalized. And the balance of the risks to our two mandates has changed.”1
Last Friday at the Jackson Hole Symposium, Federal Reserve (Fed) Chair Jerome Powell hinted at upcoming interest rate cuts. He emphasized that the U.S. has made significant progress in reducing inflation and the labor market has cooled from its overheated state. Now the Fed can turn its focus to the other side of its dual mandate—full employment.
The equities market cheered the potential upcoming Fed cuts; the S&P 500, Nasdaq and Russell 2000 saw one-day gains of 1-3%. Fed fund futures are pricing in four cuts by year-end, implying a rate of 4.3% from the current effective rate of about 5.3%.
In theory, lower rates should boost stock prices because as borrowing costs come down, companies keep more of what they earn. Markets have typically responded positively after rate cuts. A Dow Jones analysis showed that the S&P 500 increased 2.5% three months after a cut and 4% one year later, on average. However, 2001 and 2007 were outliers, when the index fell double-digits over the next 12 months.2 (source).
We believe an overweight to equities is warranted, with a tilt towards higher quality mid and small caps, since they typically benefit from lower borrowing costs.
Maverick Lin contributed to this article.