Stocks have benefited recently from increasing hopes of a Federal Reserve (Fed) rate cut, pulling the S&P 500 Index back to within 2% of its record high set April 30. But just how much help would a potential rate cut this summer actually provide? We began trying to answer that question here last week by looking back at similar periods in history, and we saw that stocks have historically done well after initial rate cuts in the absence of an immediate recession.
“Wall Street’s favorite analogy for this environment might be the 1995 so-called ‘insurance cuts,’ said LPL Chief Investment Strategist John Lynch. “At that point, the expansion was four years old, growth was solid, and the stock market was doing well. After the Fed’s first cut in July 1995, the expansion lasted almost six years longer.” Interest rates were much higher then, but this comparison seems to hold water.
The rate cut in 1998 offers another promising analogy to today’s Fed environment. The U.S. economy was late in the cycle in a very long expansion then, and we had crises: the collapse of hedge fund Long Term Capital Management and the Asian currency and Russian debt crises. The lack of investor euphoria today, however, poses a stark contrast with the excessive speculation in the late 1990s dot-com bubble period.
We could also make a reasonable comparison to the waves of quantitative easing in the years following the financial crisis and the pause in the Fed’s rate hike campaign in 2016. Stocks responded positively to more stimulus.
The more ominous comparisons are the initial Fed rate cuts in 2001 and 2007. We do not believe these periods are comparable given those cuts immediately preceded recessions, and in our view, leading indicators continue to point to very low odds of a recession in the next 12 months. More on this topic in today’s Weekly Market Commentary.
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