The stock market and retirement accounts like 401(k)s may be poised for strong gains now that the Federal Reserve’s rapid interest rate hikes appear to be over, if history is any guide.
An analysis of the last 10 Fed rate hike cycles going back to 1974 shows the S&P 500 stock index has risen an average of 14.3% in the 12 months after the central bank’s final rate increase. That’s according to Ryan Detrick, chief market strategist at Carson Group.
By contrast, the S&P 500’s average annual return over various long-term periods is: 7.5% over 5 years, 10.4% over 10 years, 7.5% over 30 years, and 10% over the past century.
The message is clear: investors tend to reward the end of Fed rate hikes.
How Rate Hikes Impact Markets
Fed rate increases make borrowing more expensive across the economy – for mortgages, auto loans, credit cards, and business loans. This cools economic growth and eats into corporate profits – both negatives for stocks.
Higher rates also make bonds relatively more appealing than stocks for investors seeking income with less risk.
Of course, the Fed’s intent is to bring down high inflation before it becomes entrenched and does even more damage. Stopping rate hikes reverses these effects, improving the economic outlook, making stocks more attractive, and removing uncertainty.
Recent Market Reactions
From when the Fed started hiking rates in March 2022 until this past Monday, the S&P 500 traded sideways overall, ending at around 4,411. But with October’s better-than-expected inflation report, the index has risen over 2% this week.
Investors are cheering the likely end of Fed hikes. But some strategists caution there are no guarantees, with risks like earnings declines or recession still possible.
Examining Past Cycles
In 8 of the 10 previous Fed rate hike cycles since 1974, ending hikes preceded double-digit S&P 500 gains. But stocks fell sharply in 2 cycles.
After the last hike in mid-1981, stocks dropped over 16% as rates stayed extremely high amid recession. And in mid-2000, the dot-com bubble bursting led to losses despite hikes ending.
The Fed’s policy shift was the key driver of strong returns in most cycles. But sometimes bigger factors like economic growth or company earnings gains played a role too.
Other Factors To Watch
Currently, stocks look fairly expensive and corporate earnings are at risk of declines. So the economic and profit outlooks remain crucial.
If strong productivity growth continues, it could support wage gains without raising inflation. But recession could hurt stocks no matter what the Fed does.
The S&P 500 has recently emerged from a year-long earnings recession. Whether earnings grow from here is a wild card.
Outlook for Stocks, Retirement Accounts
In the medium-term, the Fed pausing rate hikes could boost stocks. And investors expect rate cuts by mid-2023.
But if the Fed signals rates will stay elevated, some pullback is possible. Additional factors like earnings and economic growth will help determine the market’s path.
Ending rapid hikes doesn’t guarantee big gains. But history suggests it shifts investor sentiment and market dynamics in a positive direction. For stocks and retirement savers alike, it’s a welcome relief.
