Higher for Longer Interest Rates Hurting Stock Prices

Fed chairman Powell suggests interest rates could stay high for a longer period. The stock market, which was expecting numerous cuts this year, has not responded favorably.

Up until very recently, the expectation for 2024 has been for moderating inflation and several Fed rate cuts. In anticipation of lower interest rates, stock and bond prices have been rising over the last two quarters.

But progress on inflation has slowed. Annual inflation, as measured by the Consumer Price Index (CPI), ticked up to 3.5 percent in March. And more importantly, the Personal Consumption Expenditure (PCE) price index, the measure preferred by the Fed, was up 2.7 percent in February from a year earlier.

These readings have thrown cold water on the market’s rosy outlook for Fed rate cuts, and sent stock prices lower.

Investors have closely watched Fed officials in recent weeks for any hint of changing views on when rate cuts might begin. When the year began, Wall Street analysts expected officials to begin cutting rates in quarter-point increments as early as this spring. That’s because annual inflation had been falling steadily from a high of about 9 percent to about 3 percent, closing in on the Fed’s target.

As a result, investors have repeatedly pushed back their estimates for when the first rate cut will occur. Hardly anyone expects the Fed to make a move at its next meeting in two weeks, and most investors no longer anticipate a cut in June, either. Investors now see a cut at the central bank’s meeting in July as a coin toss, with many expecting the Fed to wait until September or perhaps even longer.

What is becoming clear is that there does not appear to be a reason for the Fed to cut rates anytime soon. Economic indicators have remained strong. Job growth has consistently exceeded expectations, the unemployment rate has remained low, and consumer spending has proved resilient. Consequently, the Fed can keep interest rates higher without threatening to cause a recession.

Stock Market Outlook

Despite the postponement of rate cuts and recent market selloff, the outlook is far from bleak. In fact, the reason the Fed has had to delay cutting rates is because the economy is so strong. This strength is likely to translate into higher stock earnings, which should lend support to stock prices.

In other words, Fed rate cuts are not, and will not be the only factor influencing stock prices, but it does seem likely that the recent bull market run in stocks could pause to catch its breath while underlying economic conditions catch up and Fed policy becomes more clear.

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