What Happens When The Fed Stops Raising Rates?

Stocks stand to benefit if the Fed eases up on the brakes

Continued concerns about the health of the U.S. banking system and economy have some investors convinced that the Fed would soon end its campaign of inflation-fighting interest rate hikes in an effort to support overall financial conditions.

Expectations about Fed policy have shifted drastically in the wake of Silicon Valley Bank’s collapse, as we recently noted, and the market increasingly thinks we may be close to peak rates for this current cycle.

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If they’re right, equities could benefit. To see why, consider the Russell 1000 Index’s historical returns during the six-month period after the federal funds rate peaked, going back to 1981 (see the chart).

raising rates

A few key takeaways:

Stocks, on average, gained 11% during the six months following the peak federal funds rate.
Typically, stocks return far less—just 6.3% on average over all six-month periods.
Stocks’ six-month returns were positive following peak rates during five of the past seven rate cycles.
The losses were relatively small in the two periods when stocks were negative (-3.6% and -2.5%).

Notably, when the Fed raised the fed funds rate earlier this week, it indicated it expects to increase rates just once more in 2023. Both the Fed and investors now see rates peaking at approximately the same level. Of course, there’s no guarantee that stocks will post gains if the Fed halts its recent rate hikes—particularly if financial conditions worsen significantly or current banking woes turn into a serious crisis.

It’s also unclear whether the Fed will actually dial back on its earlier commitment to “ongoing increases” to combat inflation. Future data on inflation, job growth, and wage growth—all of which have been surprisingly strong so far this year—will likely paint a clearer picture of the Fed’s next steps. As always, we will closely monitor those developments along with the performance of various asset classes.

This commentary is written by Horizon Investments’ asset management team.

Past performance is not indicative of future results.

The Russell 1000 Index tracks the highest-ranking 1,000 stocks in the Russell 3000 Index. You cannot invest directly in an index.

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