Investors are grappling with a painful reality check: The Federal Reserve is unlikely to slash interest rates anytime soon.
That, at least temporarily, stalled the gangbusters 2024 stock rally and lowered morale on Wall Street. Traders fear that elevated rates will uphold painfully high borrowing costs for consumers, squeeze corporate profit and weigh down the market.
The good news? History suggests that higher-for-longer rates don't translate to painful losses for portfolios, even if there may not be much more upside near term for stocks.
The benchmark S&P 500 index has added roughly 13% on average during Fed pause periods, according to LPL Financial data compiled by CNN spanning about 35 years and six stretches when rates have been on hold. The S&P 500 has gained 14% during the current period, from when the Fed last hiked rates in July 2023 through Thursday's close.
"Long pauses are typically good for stocks," wrote Jeff Buchbinder, chief equity strategist at LPL Financial, in a Tuesday note. "It's when the Fed is forced to cut because of economic weakness that stocks tend to sell off — not in the environment we're in today."
The US economy has stayed remarkably resilient, even after the Fed began an aggressive battle against wayward inflation that brought rates to their highest level in decades. The labor market has stayed strong, consumers have continued spending and stocks have notched repeated record highs.
That economic resilience, coupled with months of data showing sticky inflation, even raised concerns that the Fed would raise rates again. Chair Jerome Powell earlier this month quelled those fears but warned that the central bank needs to see inflation come down further before easing policy.
"So far this year, the data have not given us that greater confidence. In particular, as I noted earlier, readings on inflation have come in above expectations," Powell said at the Federal Open Market Committee's post-meeting press conference.
Some economists say that the central bank, which has penciled in three rate cuts for 2024, is still on track to cut rates at least once or twice this year. Traders expect the Fed will begin easing rates in the fall, according to the CME FedWatch Tool.
The April jobs report was a welcome sign that the labor market is cooling without cratering. The labor market added just 175,000 positions last month, marking its lowest tally since October 2023 and a sharp cooldown from the upwardly revised 315,000 jobs added in March. April's job gains are in line with pre-pandemic levels and the neutral rate of job growth needed to pace with population growth.
First-time applications for unemployment benefits climbed last week to 231,000, the highest level since last August, in another sign that the labor market is cooling.
Annual wage gains, a potential inflation booster watched closely by the Fed, are at their lowest level since May 2021. The slowdown in both wage gain and payroll growth last month is supportive of hopes that the Fed can tamp down inflation without triggering a recession, according to some investors.
"The case for rate cuts got a little stronger," wrote David Russell, global head of market strategy at TradeStation, in a note earlier this month. "Goldilocks could be making a comeback."
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