What Could the Rate Cut Mean for Stocks?

^{Written by: Trek Investment Committee}

On September 18, 2024, the Federal Reserve made a bold move by announcing a 50-basis-point rate cut, the first reduction since March 2020. This larger-than-expected adjustment surpassed the widely anticipated 25-basis-point cut. Rate cuts of this magnitude are not common unless there is a significant need for economic intervention. In this case, inflation has decelerated substantially since the Fed began its aggressive rate hikes in 2022. Over the past 18 months, inflation has declined closer to the Fed’s target range, easing concerns that drove earlier rate increases. By cutting rates, the Federal Reserve aims to prevent an overly tight monetary stance from stalling economic momentum, particularly as labor market data shows signs of softening​.¹

Historical Context: Lessons from 1984

When comparing today’s economic environment to past rate cuts, 1984 presents a notable example. That year, the Federal Reserve enacted a large rate cut in response to slowing economic activity, which was followed by strong stock market performance. During this period, the U.S. economy remained stable, and the S&P 500 rose by 44% over two years following the cuts. This is an example of a “soft landing”, where economic conditions improve without slipping into a recession.

However, while such historical comparisons provide useful context, it’s important to remember that past performance does not guarantee future results, and economic conditions today differ significantly, particularly in terms of the complexities that did not exist in the 1980s. Recent economic data has been mixed, leading to uncertainty about how markets will react. This unpredictability reflects the broader economic shifts that are shaping today’s environment​.²

The Potential Impact of Rate Cuts on the Market

Rate cuts can influence the stock market by making borrowing cheaper and encouraging spending and investment. Lower interest rates tend to stimulate economic activity by lowering the cost of capital for businesses, which can boost earnings and make equities more attractive. Additionally, they can improve consumer confidence by making borrowing costs, such as mortgages or car loans, more manageable. However, it’s important to note that these effects are not always immediate, and the stock market’s reaction to rate cuts can be mixed depending on other economic conditions​.

In the current environment, where inflation has cooled but the labor market is showing signs of weakening, the Federal Reserve’s move may provide temporary relief but may not spark rapid economic growth. While inflation has moderated, mixed economic data and global uncertainties may temper investor enthusiasm. The potential for a recession still looms, despite this rate cut, as broader economic trends—including slowing consumer spending and weakened corporate profits—may weigh heavily on the markets.³

Looking Ahead: Uncertainties Remain

Although Powell has made it clear that interest rates are moving lower, the Federal Reserve has left the door open regarding the pace of future cuts. The Fed has emphasized that its decisions will be guided by upcoming data, making it uncertain whether more aggressive cuts will follow or if the central bank will take a more measured approach. This wait-and-see attitude underscores the importance of watching key economic indicators like inflation, unemployment, and GDP growth in the coming months​.⁴

Rate cuts may create favorable conditions for growth, but it’s important to understand that they do not guarantee it. The evolving economic landscape, both domestically and internationally, will continue to shape how markets respond, and patience will be key in navigating these uncertain times.