What Will Happen to Stocks a Year After the Fed Cuts Rates?

A lot of investors expect the Federal Reserve to walk back its 2018 increases in interest rates. How would a rate cut be received by the stock market? And we’re not talking about right away, when the reception doubtless would be euphoric, but over the next six and 12 months?

The answer, according to research by LPL Financial, is that overall, the market does well over these periods—unless there is a bear market/recession waiting in the wings. Then look out below.

Today, while forecasters don’t see a downturn in the near future, plenty of pessimistic scenarios are around that see one sometime in 2020. But recall that in 2007, the last time a major rate-cutting cycle began, a number of strategists were saying that the subprime mortgage slump could be “contained.” Well, it wasn’t.

“The previous two times the Fed cut rates for the first time in 2001 and 2007, we saw stocks eventually get cut in half,” explained LPL Senior Market Strategist Ryan Detrick. “But the reality is if you go back further in time, you can also see explosive rallies after that first cut.”

Never miss a story — sign up for CIO newsletters to stay up-to-date on the latest institutional investment industry news. 

In the six months after Sept. 18, 2007, when the Fed started its most recent easing, the S&P 500 lost 14.6%. And 12 months following the initial rate decrease, Lehman Brothers declared bankruptcy—actually, that was on Sept. 15, 2008—and the financial crisis was underway. Over that 12-month period, the benchmark index slid 23.9%.

The situation was similar in early January 2001. After that cut, the S&P dropped 9.5% and then 14.3%. In this case, stocks actually had begun to slip in early 2000, mostly due to the bursting of the dot-com bubble.

For the other instances of rate cuts, in the LPL study, which covers the last third of a century, the economy was nowhere near a recession. Thus, the median returns for the market a year after the initial rate lowering was 13.9%.

The hairiest time came in October 1987, when the market lost 20.5% on one day (Black Monday, Oct. 19). But a few days later, the Fed pushed down rates. The market calmed down from the panic, and then enjoyed a strong advance. A recession didn’t crop up until three years later.

Right now, the Fed is on hold, following a long campaign to increase rates from near-zero, a level designed to combat the Great Recession. In 2018, it hiked rates four times, with the last quarter-point bump up in December.

To LPL, the current environment “suggests a potential rate cut over the coming months might not be as worrisome as many make it out to be.”

Tags: Federal Reserve, LPL Financial, S&P 500, stock crash

The UK’s National Employment Savings Trust (NEST) is going to cut smoking from its investment portfolio, the £6 billion ($6.7 billion) institution said Thursday, continuing a recurring industry trend as financial institutions look to cold-turkey the space.

“This announcement won’t come as a surprise to some,” said Mark Fawcett, chief investment officer of the defined contribution multiemployer plan, noting it has been raising issues with tobacco investments and the sector’s performance for “a couple of years.”

Fawcett also said tobacco companies are facing regulatory challenges from governments fed up with smoking, which makes it harder for growth in the area.

“In our opinion, tobacco is a struggling industry, which is being regulated out of existence,” he said, adding that it makes no sense to keep investing in the product when its business model looks “increasingly unsustainable.”

For more stories like this, sign up for the CIO Alert newsletter. 

NEST, which plans to gradually dump all $45 million of its related holdings over the next two years, already has a tobacco-free policy applied to its environmental, social, and governance (ESG) emerging markets and commodities funds.

The organization’s actions follow that of various other pension funds, such as Swedish organizations AP1, AP2, and AP4; and the California Public Employees Retirement System.

Governments have also been cracking down on tobacco for years.

In 2005, the World Health Organization created the Framework Convention on Tobacco treaty, where signatories that include the UK agreed to cut worldwide tobacco demand.

Marketing, advertising, and selling of tobacco products have also seen increased tightening in developed markets.

New York, which is one of six states that carry a 21-year-old age limit for purchasing tobacco products, banned pharmacies and businesses that contain them from selling the items. The UK has also banned tobacco sales and marketing, and now bans even displaying the products anywhere.

Tobacco laws are also getting tougher for emerging markets, as India’s government has threatened these companies with penalties and Brazil recently banned all flavor additives to cigarettes and their ilk.

NEST’s managers are also on board with the decision. Sergei Strigo, Amundi Asset Management’s co-head of emerging markets fixed income, said the fund does not see any attractive risk reward in the tobacco sector.

“NEST’s decision to go tobacco-free is consistent with Amundi’s ESG view to cap tobacco companies in our lowest two ratings before exclusion,” Strigo said.

Amundi has managed the pension plan’s emerging market debt investments since 2016.

Tags: Divestment, ESG, Mark Fawcett, National Employment Savings Trust (NEST), Pension, Tobacco