Sooner or later, the Federal Reserve will begin normalizing monetary policy, which means higher interest rates are coming, and this has investors rightfully worried because higher rates mean higher interest costs, which should be bad for profits and ultimately stocks. New research, however, suggests that a severe S&P reaction to such hikes is to be expected. Here’s why.
The above introductory comments are edited excerpts from an article* by Sam Ro (businessinsider.com) entitled Here’s What Stocks Do Before And After The Fed Starts Hiking Rates.
Ro goes on to say in further edited excerpts:
Deutsche Bank Chief US Equity Strategist David Bianco examined the history of Fed rate hikes and their impacts on stocks in a 27-page research note riddled with exhibits but we think the one below that shows the average price move of the S&P 500 during the four months before and the six months after the first rate hike…is pretty elegant.
“Stocks typically sell-off on the first of a series of rate hikes, but the magnitude and duration of the sell-off depend on conditions,” Bianco writes. “During early cycle hikes the initial sell-off was generally small, quickly recovered and further S&P gains came in next three months and longer (like 2004, 1983, 1972), BUT many sell-offs on late cycle hikes became corrections or even bear markets.
Determining whether it’s early or late in the cycle is subjective, but the shape of the curve, inflation measures and years since the last recession can help. Next year is likely another mid-cycle year and we don’t expect a severe S&P reaction to hikes, but the risk is the Fed hikes too late or too little and inflation accelerates requiring the Fed to hike to levels higher than expected.”
Unfortunately, it’s only in hindsight do we know where we are in the cycle so it’s not the most helpful chart for people who enjoy obsessing over the details. It does, however, show that the general direction of the stock market tends to be up.
Editor’s Note: The author’s views and conclusions in the above article are unaltered and no personal comments have been included to maintain the integrity of the original post. Furthermore, the views, conclusions and any recommendations offered in this article are not to be construed as an endorsement of such by the editor.
*http://www.businessinsider.com/how-stocks-move-around-first-fed-rate-hikes-2014-9#ixzz3EQnQH86Z (Copyright © 2014 Business Insider Inc. All rights reserved.)
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