Short-term stock performance is volatile after an interest rate cut, historically
Subscribers to Chart of the Week received this commentary on Sunday, September 22.
By Friday, the euphoria over the Federal Reserve’s interest rate cut -- and subsequent Thursday melt up -- had worn off. However, impending weekly and monthly gains remain intact for all three major indexes, shrugging off September seasonality. Assessing stock performance after Fed rate cuts is an intriguing topic, especially considering the infrequency of the occasion. I asked Schaeffer’s Senior Quantitative Analyst to uncover how the S&P 500 Index (SPX) has tended to perform following such Fed moves, comparatively to non-rate-cut performances. The elevated level of cautiousness among many market participants – even with indexes nabbing record highs left and right – is a wrinkle worth unpacking.
Assessing stock performance after Fed rate cuts deemed itself an intriguing topic, especially considering the infrequency of the occasion Stateside. I asked Schaeffer’s Senior Quantitative Analyst to uncover how the S&P 500 has tended to perform following such Fed moves, comparatively to non-rate-cut performance. Going back to 1983, the first full year of data acquired, below is a table showing the S&P 500’s performance anytime, from 2-week to 12-month returns. On average, the further out from the rate cut the return, the higher the percentage. For example, while a 2-week return yielded an average return of 0.4%, the 12-month posted an impressive 10.1% return.
The first table below shares SPX data after every time the Fed cut rates. Note the slight underperformance. An important distinction to this current market climate is that this recent rate cut comes after the Fed had hiked rates several times. Therefore, the second table below is showing how the SPX did specifically the last time the Fed made an interest rate change higher. This shows short-term bearishness, but longer term, the returns are closer to normal market readings.
White then took it a step further to see when quantitative easing began for the Fed following rate cuts. Fed easing refers to when central banks make purchases to stimulate economic movement, usually after a recession failed to come to fruition. It has been assumed that this rate cut came at the beginning of an easing cycle, which means it’s expected more rate cuts will come. The table below shows the individual times the Fed cut rates to begin an easing cycle (the green arrows on the chart just below the table). After these five data points, the stock market has tended to be weak. The 12 month returns shows three decent returns between 9.5% and 13.1% then two very poor returns of double-digit losses, -24% and -14%.
To finalize, this data suggests that over the next 12 months returns for the S&P 500’s are likely to extend its chart outperformance. The outlook gets even more encouraging when factoring in the S&P 500 near record highs. Per J.P. Morgan, when the S&P 500 is within 2% of an all-time high and the Fed cuts rates, historical data shows that the index has increased 100% of the time over the following 12 months since 1980, with an average return of 13.9%.
There will always be schools of thought that assign panic and recession to sudden, sharp rate cuts, no more so when equities are already doing quite well. These very real variables from a Fed-easing cycle could delay the broad market climb implied in this historical data. But as pessimistic investors grapple with impending short-term volatility or weakness, the current weekly (and soon-to-be monthly) gains – coupled with the historical data above -- suggest a resiliency that could only inspire cautious optimism moving forward.