By Daniel McGarvey, CFA, Senior Portfolio Analyst, on behalf of Stonebridge Financial Group advisors

After an aggressive rate hike campaign and an easing in inflationary pressures, the real federal funds rate has gone from negative to a level around 2.5%. Since the Federal Reserve has likely reached the end of hiking, and the consensus is that we will be able to avoid a recession, one could argue the fundamental landscape for equities appears favorable. However, the history of how equities perform after real rates stop rising is mixed. In the nine examples we have of the 12-month S&P 500 performances after periods of a rising real fed funds rate, four periods have been positive, and five have been negative.

Perhaps more telling is that energy and defensive sectors like consumer staples and utilities have performed better in these regimes than some of the sectors that have recently dominated, like technology and communication (see chart).

Median sector performance in the 12-months following periods of a rising real Fed funds rate

Of course, our current situation could be different from the past, with factors like the 2024 election, the lingering effects of pandemic stimulus, and the speculation regarding the potential of artificial intelligence (AI). The markets seem to be well aware of those factors, though, and are already pricing in significant growth at the top of the market. It would not surprise us to see a change in leadership after the massive run-up of the Magnificent 7, and participation has begun to broaden.

History also shows us that once rate cuts begin, the S&P 500 does not tend to perform as well as one might expect. As shown below, on average the market hits a cycle low 213 trading days after the first cut and drops 23.3% in that time. It does not help that in our current environment, valuations are already stretched, with PE ratios above 20.

Trading Days from First Fed Rate Cut to S&P Market Low vs. S&P 500 Percent Change from First Fed Cut to Market Low

The path of the Federal Reserve is not clear, however, and the expectations of that first cut’s timing have changed significantly over the last few months. As of the end of February, the market is assigning a 52% probability that cuts will begin in June, but major economic developments or global events could move that decision earlier or later. There is also the lingering threat that inflation could come back in a second wave if cuts came too quickly, which would require the Fed to change course.

Equity values might keep increasing this year, but we are cautious not to assume that they will keep rising simply because rates should come down.


Equities continued their impressive start to the year as the S&P 500 returned 5.3% in February. The Bloomberg US Aggregate Bond Index fell -1.4% as the 10-year Treasury Rate rose to 4.25%. The Federal Open Market Committee will meet later in March to discuss rate policy but will likely keep rates paused in the 525-550bps range.

Charts provided by Strategas Research Partners, LLC and YCharts, Inc.

Material discussed is meant for general/informational purposes only and it is not to be construed as tax, legal, or investment advice. Although the information has been gathered from sources believed to be reliable, please note that individual situations can vary therefore, the information should be relied upon when coordinated with individual professional advice. Past performance is no guarantee of future results. Diversification does not ensure against loss. The opinions and forecasts expressed are those of the author, and may not actually come to pass. This information is subject to change at any time, based on market and other conditions.

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Daniel McGarvey, Porfolio AnalystDaniel is a Portfolio Analyst at Stonebridge Financial Group and works on portfolio analysis and other related tasks. When away from the office, Daniel spends his time playing guitar, reading, and exploring the outdoors.