Rate cuts and stock prices

Investors worldwide are positioning themselves for a stock-market surge, encouraged by signals soon begin cutting interest rates.

After all, the conventional belief is that stocks rise when the Fed cuts rates. Expectations of a 0.5 per cent cut at this month's Fed meeting are growing, since inflation has cooled significantly, and is now nearing the Fed's target of 2 per cent. Will rate cuts truly lead to higher stock prices? Disappointingly enough, the historical data shows that interestrate changes whether increases or cuts not strongly correlated with stock-market performance, as measured against broad market indices like the S&P 500.

Let's begin with a recent example: Rate increases ― are In mid-February 2022, I had speculated in these columns whether markets would actually rally if the Fed raised rates to combat inflation. This hypothesis contradicted the orthodox belief that markets fall during rate increases and rise during rate cuts. My view was derived from the publicly available data. For instance, between mid2004 and mid-2006, the Fed raised rates 17 times, yet the S&P 500 gained 46 per cent.

Similarly, from December 2015 to December 2020, the Fed raised rates nine times, from 0.25 per cent to 2.5 per cent, and the S&P surged from 1,900 to 2,800. Interestingly, the index wobbled in 2018 toward the end of the three-year rate-increase cycle, not at its outset.