Wall St Week Ahead: Last Fed hike tends to aid stocks, but some have doubts this time
Wall St Week Ahead: Last Fed hike tends to aid stocks, but some have doubts this time: Owning American equities near the conclusion of the Federal Reserve’s rate-hiking cycle has historically been a smart move, but this time around the upside may be limited by stretched valuations and an unclear economic outlook.
At the end of its meeting next week, the U.S. central bank is projected to maintain rate stability after increasing borrowing prices by 525 basis points since March 2022. Many investors think that the central bank’s most aggressive monetary policy tightening cycle in decades will conclude when officials decide not to hike rates anymore.
Should they be correct, equities may be in a position for more increases. According to a study by financial research company CFRA, the S&P 500 (.SPX) increased by an average of 13% from the last rate rise to the first reduction in the subsequent cycle after the Fed’s previous six episodes of credit tightening.
However, more pessimistic investors believe that a slump is inevitable as increasing interest rates tighten financial conditions. This year, the S&P 500 has already increased by more than 16%, thanks in part to the U.S. economy’s resilience to rising interest rates.
“If it is the end of the Fed rate hike cycle, the market will probably cheer it a bit,” Northwestern Mutual Wealth Management Company chief investment manager Brent Schutte said.
Though Schutte’s business prefers fixed income over equities, “I don’t think the economy is going to stay out of a recession and that is going to be what ultimately decides the direction of stocks,” he added.
Even if the majority of investors think a recession in 2023 is improbable, some market players still think there may be a downturn that year. The inverted Treasury yield curve, a market occurrence that has preceded previous downturns, has been one concerning recession indicator.
Based on bets on futures linked to the central bank’s policy rate, the CME FedWatch Tool measures the probability that the Fed will maintain rates unchanged in its policy announcement on Wednesday, with 97% of traders predicting this outcome. Based on CME’s statistics, traders believe that the Fed will leave rates steady in November around two out of every three times.
The odds for December indicate that there is almost a 60% likelihood that rates will remain the same.
In an effort to curb inflation, Fed Chair Jerome Powell said last month that further rate hikes could be necessary. He pledged to proceed cautiously at future meetings.
However, more largely benign inflation data, as in recent months, may indicate that the Fed’s quarter-point hike in July was the last part of a cycle that rattled asset values last year.
Chief financial analyst at CFRA Sam Stovall said, “If Wall Street concludes that the Fed has ended its rate tightening program, that would at least offer support if not give (stocks) an additional catalyst to keep working higher.”
Additionally, investors are trying to predict when the Fed will start to loosen monetary policy. According to CFRA, the S&P 500 has gained an average of 6.5% in the six months that follow the Fed’s rate drop, which typically occurs nine months after the Fed’s last rate rise.
According to the CME statistics, investors are pricing in a slight likelihood of a reduction as early as the Fed’s January meeting, with estimates of a cut at about 35% for May.
Even if the Fed stops raising rates, some investors still believe that the stock market faces difficulties.
Further declines in global profits are anticipated by Oxford Economics analysts, who point out that equities “have typically delivered far weaker returns following the final Fed rate hike when it has coincided with an EPS downturn.”
Investors such as Oxford are also cautious about market values, which have skyrocketed this year. According to LSEG Datastream, the S&P 500 is now trading at around 19 times ahead of 12-month earnings projections, up from 17 times at the beginning of the year and its long-term average of 15.6 times.
Bond rates are rising, which has made fixed-income investments more appealing as an alternative to equities for investors and a danger to equity values. The 10-year Treasury yield is almost at 15-year highs.
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