The Federal Open Market Committee (FOMC) lowered its benchmark interest rate by 25 basis points or 0.25% on 7th November 2024. This was the second-rate adjustment since July 2023, as well as the second consecutive rate reduction.As per Kavan Choksi, this cut was prompted by the improving economic conditions in regard to inflation rates in the United States economy. As inflation is getting closer to the Fed’s long-term target of 2%, investors expect a series of rate reductions.
Kavan Choksi Briefly Talks About the Fed Rate Cut and How Can It Impact Stocks
As the Fed cuts interest rate, banks lower the rates charged by them on consumer loans. The reductions are immediate on existing variable-rate debt. In such a scenario, customers and businesses benefit significantly from lower ongoing interest expenses. While existing fixed-rate borrowings are not affected, new fixed-rate loans also get cheaper. Fed rate cuts can also create opportunities to refinance fixed-rate loans at lower interest rates.
Fed rate cuts lower the cost of borrowing, and cheaper debt is generally good for business. It encourages businesses to pursue growth in a more aggressive manner. Investors may funnel more capital into the stock market expecting higher earnings ahead, which can push stock prices higher. As investor expectations are heavily influenced by stock prices, the impact of a rate change typically starts much before the Fed acts.
The stock prices go up when investors expect a rate reduction and the economic outlook is good. The after-effects are likely to be minimal as the Fed implements the cut. Auto, retail and apparel are among the best-performing sectors when interest rates are falling. As rates continue to fall in 2024 and beyond, real estate investment trusts or REITs can also be attractive investments. Lower interest rates may also benefit cruise ship operators and airlines. They have considerable debt loads and are economically sensitive. Lower inflation can help their profitability and lower rates can reduce borrowing expenses. Basically, lower interest rates are especially advantageous for real estate values and companies that significantly depend on debt or discretionary consumer spending.
In the opinion of Kavan Choksi, investors who plan to maximize income or growth within a relatively short period of time may see the Fed’s rate cuts as an opportunity to adjust holdings as per the interest rate climate. This would ideally involve shifting exposure between bonds and stocks. Bonds are more favoured when interest rates are going up, while stocks gain popularity when interest rates fall.
Long-term investors with high-quality, diversified portfolios, on the other hand, should avoid any kind of major change changes in response to rate adjustments. Overhauling a portfolio on the basis of temporary conditions may undermine results over time. Long-term investors may prefer to use shifts in economic conditions as cues to periodically review the composition and asset allocation of their portfolio. If the portfolio is performing well and maintains an acceptable risk level, a few adjustments may be necessary. However, even with a solid allocation strategy, minor tweaks could enhance performance as interest rates fluctuate. In such cases, adjusting sector exposure becomes a key consideration.
