The S&P 500 has been experiencing a sideways trading pattern this year, largely due to investor concerns surrounding high valuations, aggressive spending on artificial intelligence, and the potential impacts of President Trump’s trade policies. Despite these uncertainties, historical trends indicate that a cut in interest rates could potentially revive market activity.
President Trump has consistently advocated for the Federal Reserve to lower interest rates since his return to office. This topic is set to be addressed during a two-day meeting that concludes on March 18. Investors are keenly awaiting the outcomes of these discussions.
The Federal Reserve sets U.S. interest rates through adjustments to the federal funds rate, which influences borrowing costs across the economy. An increase in this rate generally results in higher borrowing costs, leading to sluggish economic growth, lower inflation, and elevated unemployment figures. Conversely, a reduction in rates makes borrowing cheaper, spurring economic growth, potentially increasing inflation, and lowering unemployment.
As of January, the Federal Reserve maintained the target range for the federal funds rate at 3.5% to 3.75%. This figure is notably higher than rates in several developed countries such as Canada, China, the European Union, Japan, and South Korea, and is about one percentage point above the 30-year average.
Trump has publicly posited that the U.S. should aim for the lowest interest rates globally. When queried about the appropriate level for interest rates in a year, he suggested a target of “1% and maybe lower than that.” Throughout the past year, he voiced similar sentiments while consistently criticizing Fed Chair Jerome Powell in pursuit of this goal.
On one hand, reduced interest rates could invigorate the economy, enhance job opportunities, and alleviate government debt costs. On the other hand, lowering rates could exacerbate inflation at a time when price increases are already surpassing the Fed’s 2% target, with consumer price inflation at 2.4% and the PCE price index at 2.9% in December.
Historically, the S&P 500 has achieved a median return of 10% in the year following interest rate cuts. Since 1990, the Federal Reserve has lowered rates 58 times, and data indicates that if these cuts occur outside of recession periods, the median return for the S&P 500 rises to 11%. Presently, the economy is not in recession, so if a rate cut occurs in March, there’s a possibility—estimated at 50%—that the S&P 500 could return at least 11% in the subsequent year, surpassing its average one-year return since 1990.
The logical correlation between lower interest rates, decreased borrowing costs, increased consumer spending, and subsequent corporate growth suggests that the S&P 500 should perform favorably. However, with inflation currently above the Fed’s target, it appears unlikely that the Fed will enact any rate cuts in March. Market expectations currently suggest a rate cut probability of less than 5%, focusing instead on the possibility of a cut during the June meeting, which remains uncertain.
In summary, while President Trump is pushing for lower interest rates, the Federal Reserve seems poised to hold steady in March. This scenario could keep the stock market stagnant until clearer economic indicators emerge, assisting policymakers in determining the right timing for future rate cuts.
