Despite experts recommending large cap stocks as good investments at
the end of a Fed rate tightening cycle, recent studies suggest that
both the S&P 500 and the Dow Jones Industrials have tended to trend
lower for the following 6 and 12 month periods. History does not
appear to support the popular thesis that the end of a tightening
cycle is uniformly good for stocks in general. However, financials,
health care, real estate, technology, and utilities have historically
performed well at the conclusion of a Fed rate tightening cycle.
Sincerely,
Wonko
Sources:
"Ironically enough, even in the unlikely event that the Fed is
finished raising rates, history has shown that alone is not enough to
boost stock prices. In fact, according to statistics gathered by Jason
Goepfert of SentimentTrader.com, since 1950, the average return in the
Dow Jones Industrials in the six months that follow the end of a rate
hike cycle is ?2.7%. Basically, stocks generally move lower when the
Fed stops raising rates. Not the other way around. The idea that the
end of a rate hike cycle is bullish for stocks is not supported by the
market?s historical performance."
"INDEX INTELLIGENCE: Don?t Bet on the Fed" By Frederic Ruffy,
Optionetics.com (5/9/2006)
http://www.optionetics.com/articles/article_full.asp?idNo=14816
"But what the bulls see as an all-clear signal is far from a sure
thing. "There's quite a bit of talk about the market doing better once
the Fed (stops)," says Ed Clissold, senior global analyst at Ned Davis
Research (NDR). "However, more often than not the market has struggled
after the last rate hike."
Going back to 1929, the Standard & Poor's 500 was actually lower six
months after the last rate increase 71% of the time and down 64% of
the time 12 months later, according to data that NDR compiled for USA
TODAY."
"Odds are that stocks will drop once rate-rising stops" By Adam Shell,
USA TODAY (January 29, 2006)
http://www.usatoday.com/money/markets/us/2006-01-29-fed-stops-usat_x.htm
"Stock investors typically welcome the end of Fed tightening with open
arms, although the picture can be mixed for equities. The S&P 500 has
posted an average advance of about 8% in the year after the end of Fed
tightening, even as the economy loses serious momentum. This is
despite the fact that stocks have posted double-digit declines in two
of the cycles (after 2000 and 1981)?both times because the economy
slipped into outright recession. However, the good news is that
equities have normally posted even stronger gains (averaging almost
20%) in the second year after the Fed finishes tightening. The only
exception was the 2000 episode, when stocks were still melting from
extremely overvalued levels. Just as that cycle appears to be an
outlier, so too does the huge rally after the end of the 1995
tightening cycle, when stocks jumped 35% in the first year. Overall,
it seems that stocks are less beholden to the Fed rate cycle in recent
years (Chart 1)."
"When the Fed Stops" by Douglas Porter, Focus (June 9, 2006)
http://www.bmonesbittburns.com/economics/focus/20060609/
Experts are favoring large-cap stocks. Financial stocks are mentioned
by multiple experts, and five sectors have been shown to typically
perform better at the end of a rate tightening cycle.
"The financial sector historically benefits after the Fed stops raising rates."
"Capital Market Outlook" by Lynn Reaser, Harvey B. Hirschhorn, and
Joseph P. Quinlan, Banc of America Investment Advisers (June 12, 2006)
http://institutional.columbiamanagement.com/NR/rdonlyres/B1200E17-A2E0-4C93-B398-14DD747182BA/0/CMO_061206.pdf
"Q: How would an end to the Fed?s tightening cycle affect large-caps and the Fund?
A: First, we have to consider why the Fed would stop raising
interest rates. The consensus is that we?re going to see one or two
more Fed hikes in this cycle. However, we expect a very strong GDP
(gross domestic product) number for the first quarter of 2006, which
could persuade the Fed to continue to raise rates until they see some
compelling reason to stop. Reasons could include a major economic
slowdown, evidence that the inflation environment has become benign,
or a financial or geopolitical catastrophe like we?ve seen in the
past?though I?d put a low probability on the last example. Once they
feel enough inflation has been wrung out of the system and enough of a
slowdown has occurred, they may move to the sideline. Quality
large-cap growth names have historically done well in those
environments, and we believe we have built a portfolio that could
benefit in such a scenario.
Despite the slowing we are seeing, the U.S. consumer has remained
remarkably resilient. That has a lot to do with employment, which is
another important factor to consider. In our view, as long as
unemployment remains low, consumers are going to feel confident about
spending. Should there be a significant drop in the level of
employment, or should the consumer begin to really feel the effects of
higher energy costs and higher rates, that confidence and the
resulting economic activity could slow. Once again, in such an
environment, we would expect large-cap growth to outperform."
"Poised for a Rotation Back to Large-Cap Growth" A Conversation with
RCM?s Raphael Edelman, Allianz Global Investors (March 30, 2006)
http://www.allianzinvestors.com/commentary/mkt_insight_ts03302006.jsp
"Though were coming off of a low base in this example, stock markets
have still performed well in anticipation of the end of a
rate-tightening cycle, according to Sam Stovall, chief investment
strategist at Standard & Poor's. Stovall says that since the early
1970s, the S&P 500 advanced an average of 3% in the three-month period
preceding the last rate increase of a tightening period."
"Size may also play a role in stock selection during periods of rising
rates. "When interest rates move up, economic growth slows down," says
Rosanne Pane, mutual fund strategist at Standard & Poor's. "Investors
are attracted to companies with high-quality and consistent growth. We
believe this tends to favor the large-cap companies. On the other
hand, small-cap stocks, which usually exhibit higher growth rates,
tend to perform better when the economy is rebounding, as we saw in
2003."
Historical data show that after a period of credit-tightening ceases,
certain key sectors have performed very well over the next 12-month
period. For example, on Feb. 1, 1995, the Fed completed a year-long
tightening campaign that saw interest rates double, to 6.00% from
3.00%. For the one-year period ending Feb. 1, 1996, the average sector
fund in five key sectors -- financials, health care, real estate,
technology, and utilities -- delivered powerful gains."
"What Rising Rates Mean for Stocks" by Palash R. Ghosh, Business Week
(December 2, 2005) http://www.businessweek.com/investor/content/dec2005/pi2005121_5966_pi015.htm?campaign_id=search
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