#fed interest
Rising interest rates have had a major impact on stocks, cryptocurrencies, and commodities like oil over the past few years. But what can investors expect from here and how long will the interest rate environment impact markets?
The prospect of higher interest rates has been weighing on markets for more than two years, but the trend reached a turning point in mid-2023. In nine of its last 10 meetings, including the one that ended July 31, the Fed has chosen to hold rates steady, after raising rates 11 times this economic cycle. Now, few analysts doubt that rates are poised to move lower soon, as inflation â which hit 3 percent in June â has come increasingly under control.
* Interest rates and recession fears lose their impact on the market
While the Fed has raised interest rates 11 times during this tightening cycle, itâs easy to see when markets really took notice that the central bank wasnât kidding about its intention to recalibrate monetary policy. That was in November 2021, when cryptocurrencies and many riskier stocks hit their peaks.
âWhen the Fed introduced restrictive monetary policies by raising interest rates in 2022, it caused both stocks and cryptocurrencies to fall appropriately in valuation,â says Octavio Sandoval, chief investment officer at Illumin Capital.
âThe stock market is not going to stop worrying about future interest rates,â says Steve Azuri, president of Azuri Financial in Troy, Michigan. âThe cost of borrowing affects all areas of investing, buying and saving. Just the anticipation of what might happen is enough to cause a reaction in the stock market.â
Interest rate trends seem to be scaring investors less these days, as they see the future path of interest rates as likely to be lower.
While major stock indexes like the S&P 500 spent most of 2022 in the doldrums due to rising interest rates, they have performed well in 2023. The S&P 500 is up about 24 percent last year, while the Nasdaq Composite is up about 43 percent. That has been followed by a strong first half of this year, though it has retreated slightly from its recent all-time highs.
But what about a much-anticipated recession? The relative strength of recent markets suggests that investors may be more optimistic â or at least less pessimistic â than they were before. Many analysts are predicting a so-called âsoft landingâ for the economy, a scenario in which inflation falls and unemployment rises slightly but the economy does not enter a full-blown recession.
But after the strong rally in 2023 and 2024, there may be plenty of room for markets to fall further if the economy deteriorates significantly.
2022 has been a tough year for many high-growth, non-profit stocks, and while prices have risen in 2023, that doesnât mean these stocks are anywhere near their previous highs. For example, software stocks like Cloudflare, Zoom Video Communications, and Confluent are worth less than half of their all-time highs. However, large-cap stocks like Microsoft, Apple, and other companies on the Magnificent 7 list have performed well despite the price moves.
Cryptocurrency prices have struggled as interest rates have risen, but now that prices are set to fall in the near term, cryptocurrency prices have surged. The introduction of exchange-traded funds (ETFs) has helped boost Bitcoin, which hit an all-time high in March. The prospect of lower prices and inflows into ETFs has also pushed Ethereum higher.
*Does lower interest rates cause stocks to fall?
Stocks and cryptocurrencies have been volatile as investors price in higher interest rates. But what lies ahead over the next six months, with the Federal Reserve expected to cut rates in September?
Expectations of lower interest rates have helped support rate-sensitive sectors such as banks and real estate investment trusts. Small-cap indexes such as the Russell 2000 have also performed well in recent weeks as the market begins to price in the possibility of rate cuts coming soon. At the same time, the imminent arrival of lower interest rates has not seemed to boost big tech names such as Apple, Microsoft and Amazon, which are down significantly from their 52-week highs.
Market watchers remain divided on whether the Fed will keep interest rates so high for an extended period and whether that is already reflected in current stock prices. That uncertainty itself is driving volatility in the markets.
âI fear that this approach of not cutting rates, or being afraid to cut rates too early, could push the economy into a short-term recession,â said Dan Raju, CEO of brokerage firm Trader.
âThe soft landing story seems to have taken hold, but there are still a lot of market participants who are skeptical that this is actually happening,â says Brian Spinelli, co-chief investment officer at Halbert Hargrove Financial Advisors in Long Beach, California.
Meanwhile, markets continue to readjust to an economic environment with expectations that interest rates are poised to move lower.
The 10-year U.S. Treasury yield is now at 4.12%, well below the 52-week high of 4.99% hit in October, after a surge at the start of the year, and has been falling in recent weeks.
Now, with short-term interest rates much higher than long-term ratesâa so-called yield curve inversionâmany market watchers are still expecting a recession in 2024. A recession would likely push the stock market even lower so that investors can begin to gauge the length and depth of any coming downturn. But that might not stop stocks from rising sporadically.
How Interest Rates Impacted Cryptocurrency* and Commodity Markets
Reactions to higher interest rates have been mixed in two other major asset classes. While cryptocurrencies have fallen along with other risk assets, many commodities, including oil, have rallied in early 2022, but many of these moves have proven short-lived. As the Fed funds rate hike slows and then stalls in 2023, oil and crypto appear to have found some support.
Now with interest rates set to fall in the near future, both have found an additional tailwind.
Cryptocurrencies are often promoted as a cure-all for whatever ails you, whether itâs inflation, low interest rates, lack of purchasing power, a depreciating dollar, etc. It was easy to believe these positives as long as cryptocurrencies were on the rise, seemingly regardless of other assets.
âThe reality is that cryptocurrency prices have proven to be affected by the same sentiments that affect individual equity investors,â says Raju. âIn general, higher interest rates scare investors away from riskier investments like cryptocurrencies, and a rate cut would be seen as a positive by the crypto investor community.â
In fact, cryptocurrencies responded to the decline in liquidity as other risky assets did, falling when the Federal Reserve announced its intention to raise interest rates in November 2021 and then throughout 2022 when the Fed implemented this move aggressively. Moreover, the rise in crypto prices and exchanges like FTX undermined tradersâ confidence in these virtual assets.
But the instability in the banking sector has led many traders to push crypto prices higher, believing that the future path of price increases will be less severe. With the 10-year Treasury note peaking in October 2023 and then falling, riskier assets have rallied, as the path to lower interest rates seems clear.
However, there are other factors that have also played a role in the rise of cryptocurrencies over the past year.
Spinelli points to the approval of Bitcoin ETFs as a significant driver of cryptocurrency prices.
In early January, the Securities and Exchange Commission approved 11 asset managers to offer Bitcoin ETFs. Anticipation of approval helped the cryptocurrency end 2023 strongly, and inflows into the new ETFs then pushed the cryptocurrency to an all-time high in March.
As for commodities, many prices were off their recent highs, with less supply constraints and higher interest rates pushing them down a few notches. But expectations of lower interest rates have helped keep oil from falling significantly below $70 a barrel in 2023 and 2024. Prices have also been supported by oil-producing countries announcing supply cuts and some general market tightness.
For example, the price of oil has been on a steady downtrend to around $70 per barrel after peaking at around $123 in June 2022. In 2023, the price of oil bottomed out at around $70 and ranged between that and $80, although it rose to $90 mid-year. After hitting around $70 per barrel in early December 2023, oil trended higher at the start of the year but fell back below $80 by early June and has declined in recent weeks.
How should interest rates affect your investment strategy?
Interest rates, inflation, and uncertainty â all of these factors create a tremendous amount of volatility for investors. With so much volatility, investors may want to be cautious.
However, the best way for most investors to deal with this type of market is to stick to a long-term game plan. For many investors, a long-term plan means continuing to invest regularly in a diversified portfolio of stocks or bonds and ignoring the noise around the world. For others, the plan might involve buying and holding diversified index funds. Either way, donât let emotions get in the way of an effective long-term investment plan.
While short-term traders may overestimate prices and try to time a downturn, it is important to keep things in perspective. Instead of trying to find the right time to sell, buy-and-hold investors can use market volatility to their advantage and then try to find the right time to add more.
âFor long-term investors, pullbacks represent attractive buying opportunities,â said Greg McBride, chief financial analyst at Wright Bank.
Recessions can be an attractive time to add to your portfolio at discounted prices. As investing legend Warren Buffett once said, âYou pay a very high price in the stock market for a cheerful consensus.â That means stocks become cheaper when few agree that they are an attractive investment.
Reference links:
https://cointelegraph.com/explained/impact-of-fed-interest-rateson-crypto-holders
