Investors Push Back Bets on Fed Rate Cuts, Stocks Expected to Stay Strong in 2024
Investors have recently adjusted their expectations for when the Federal Reserve will begin cutting interest rates, but this change is unlikely to impact the upward trajectory of stocks in 2024, according to Wall Street strategists. After an inflation report showed an unexpected increase in consumer prices last month, the number of anticipated rate cuts for 2024 has dropped to two from the previous peak of seven in early January. Despite a temporary market pullback in response to the inflation data, the stock market has shown resilience in the face of interest rate expectations this year, with the S&P 500 up approximately 8% year-to-date. This suggests that a shift in market expectations for Fed policy is unlikely to disrupt the ongoing stock market rally.
Wells Fargo chief investment strategist Christopher Harvey emphasized the significance of a multiyear easing cycle, emphasizing that while the timing and extent of the rate cuts can be debated, the fact remains that an easing cycle is on the horizon. Harvey’s perspective is reflective of the sentiment shared among financial strategists, who believe that the timing and extent of rate cuts are less critical than the underlying reasons behind the Federal Reserve’s decision.
Market bulls have been encouraged by indications that high interest rates are not impeding corporate earnings growth or US economic growth. Consensus estimates suggest that earnings growth will strengthen throughout the year. Bank of America’s US and Canada equity strategist, Ohsung Kwon, highlighted the significance of earnings as the main driver for stock market performance. Kwon believes that the S&P 500, with a year-end target of 5,400, could reach this level even in the absence of rate cuts in 2024. This sentiment has been echoed by several other strategists who argue that the market rally will not be significantly impacted if the Fed decides not to cut rates at all this year.
A ‘No Landing’ Scenario for Stocks
According to an increasing number of economists, the improving economic growth outlook augments the likelihood of the Federal Reserve reducing rates by a smaller margin than previously anticipated, if any cuts are implemented at all. This scenario, often referred to as a “no landing scenario,” occurs when economic growth accelerates while the decline in inflation slows. This potential outcome, which would be underpinned by positive economic growth, has prompted strategists to speculate that earnings growth may expand beyond the technology sector to a broader range of industries later in the year. However, it could also exacerbate the divergence between large-cap and small-cap stocks.
Morgan Stanley chief investment officer Mike Wilson has observed recent cyclical leadership in sectors such as Energy, Materials, and Industrials and believes that these developments align with a “no landing” scenario. Within this context, investors have shown a preference for large-cap companies over small caps, as the latter exhibit greater sensitivity to fluctuations in bond yields. This preference was evident on a recent market day when the 10-year Treasury yield surged more than 20 basis points, causing the small-cap Russell 2000 index to decline by nearly 3% while the broader S&P 500 slipped less than 1%. As long as rate cut expectations continue to diminish, investor interest in sectors like small caps, which are more susceptible to the current high interest rates, is anticipated to remain subdued.
Mike Wilson also notes that declining rates could further propel a rotation towards a broader group of cyclicals, including lower quality companies with weaker balance sheets. Conversely, a rise in yields could lead to a narrower market regime.
Based on the assessment of industry experts, the stock market rally is expected to remain robust, even if the Federal Reserve decides not to implement any rate cuts in 2024. The key focus is not the timing or magnitude of rate cuts but the rationale behind them. Striving for a strong economy rather than cuts due to economic weakness is the desired scenario. As the market continues to unfold, the possibility of a “no landing” outcome gains traction, indicating a positive economic growth environment. The dominance of large-cap companies remains intact, while small caps face rate sensitivity due to the prevailing bond yields. The evolution of rate cut expectations will dictate investor appetite for certain sectors, with potential product offerings expanding beyond the technology sector, thus broadening the range of opportunities for investors.
Josh Schafer, a reporter for Yahoo Finance, covers the latest news related to the stock market. Follow him on Twitter @_JoshSchafer.
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