Will Rates Do a U-Turn?
If history is any guide, Fed loosening will begin in months
After months of debate over whether the Federal Reserve Board should raise interest rates, it might be time for investors to begin a new discussion: How soon will it be until the Fed starts cutting rates? The answer may be sooner than they think.
Now that the Fed left rates unchanged last week for the second straight month, it "increases the likelihood that this pause by the Fed is actually the end of rate hikes," says John Caldwell, chief investment strategist for McDonald Investments.
The calendar offers another clue. The central bank's next monetary policy meeting is scheduled for October 24. It's hard to imagine that Fed Chairman Ben Bernanke would choose to anger the White House-and Wall Street-by raising rates just two weeks before the critical midterm elections. As a result, investors would be wise to focus on when the Fed is likely to start trimming rates to jump-start the same economy it has worked so hard to slow for the past 2
Historically, the Fed has been forced to pivot surprisingly quickly from a stance of tightening the money spigot to loosening it as economic conditions change. Since 1920, it has typically taken only 5
Anticipation of a future rate cut could be the reason the market has been performing so well lately. Last week, the Standard & Poor's 500 index hit a new 5
Playing defense. To be sure, these "plateau periods" haven't been great investing opportunities. Going back to 1971, the S&P 500 index has fallen 2.1 percent on average between the last in a series of rate hikes and the first rate cut. But dig a little deeper, and you'll find that many pockets of the market do just fine. In fact, seven of the 10 major economic sectors have seen their stock price rise in plateau periods.
Still, investors should probably be a bit more defensive-minded during these transitional stages. For example, consumer-staples stocks have soared 8 percent on average during recent plateaus. By comparison, shares of consumer discretionary companies-which are much more economically sensitive, since the goods they produce aren't needed for basic day-to-day living-have gained only 2 percent.
The healthcare sector has been the best bet among all market sectors, having outperformed the S&P 500 in 76 percent of plateau periods since 1971.
This story appears in the October 2, 2006 print edition of U.S. News & World Report.