In this episode of "Coffee with Waymark," we explore the September 18th rate cut by the Federal Reserve, telegraphed at the recent Jackson Hole conference. We look into why the Fed cuts rates and how these cuts typically affect the market, highlighting the crucial role of consumer spending and borrowing in driving the economy.
Key Points Discussed:
Potential Rate Cut
Purpose of Rate Cuts
Impact on Consumer Behavior
Transcript:
Hi and welcome to another Coffee with Waymark. Today's episode we're going to talk about rate cuts. In the middle of September 2024, we are looking at potentially a rate cut by the Fed. They pretty much, for all intents and purposes, telegraphed it at the Jackson Hole conference in Wyoming this past month where they pretty much said that it seems like it's about time that we're going to cut rates.
So with that said, that is what is going on. So two things that I wanna talk about today. One, why does the Fed even do this? Why does the Fed cut rates? And then number two, how does it typically cause the market to react?
So let's start with the first question. Why does the market cut or why does the Fed cut rates?
The Fed cuts rates because at the end of the day, what makes any economy run is the idea of borrowing. So whether it's your mortgage, your car loan, your credit card, people consume goods and a lot of times they use credit in order to consume the goods.
So if interest rates are through the roof, that may cause people to pull back on making those types of decisions. Perfect example when interest rates in the United States just a couple of years ago for mortgages were down to about 3%, even less in some cases, people were buying houses, lots of activity, lots of economic activity that was going on.
And there's a ripple effect. So for instance, you buy a house. What are some of the things that you do? You might hire a contractor that employs someone that wasn't employed before. You go to Home Depot, you go to Lowe's, you go to home improvement places, you go to tile stores, you start consuming more because of that one purchase.
And that one purchase was encouraged by having a low interest rate. And the flip side is also true. Right now, interest rates for mortgages are somewhere between 6% and 7.5% depending on the day. And what happened? People pretty much put the brakes on selling their house because they know they're going to have to buy a new house and potentially increase their interest rate.
So interest rates do matter and they do impact customer activity. Let's switch gears to what happens with the market. One of the things that I've mentioned in a number of these videos is that the consumer drives the market. The economy. So what I mean by that is if you look at the statistics anywhere between 66 to 70 percent of economic activity is driven by the consumer.
How much people consume, what they buy or spend their money on. If consumers put the brakes on spending. Guess what happens to the economy? Things start going south. And the flip side is true. If they're encouraged to spend money and spend money on credit sometimes because interest rates are so low, they'll start spending money.
If they start spending money, the economy does well. They start losing, if they start holding back on spending. Economy goes down. And so that's pretty much what's going on here. Is this that this is a very critical lever that the Jerome Powell can exploit to either throttle up economic activity or throttle down economic activity.
We can get into the dual mandate that the Fed has, which is on one hand to keep inflation in check, but on the other hand, keep in full employment. And those are competing initiatives. So what I mean by that is when unemployment is very low, that's typically inflationary. So you have low unemployment, but high inflation.
And the flip side is true. If unemployment starts ticking up, inflation starts going down. And what the Fed is constantly trying to do is put that in balance. And unfortunately, it's a very difficult balance to try to strike. So what is that? So let's go to question number two.
So question number two is what happens with the market when the Fed drops rates like they anticipate that they'll do mid September 2024.
So let's take a look and what I'm showing here on the screen is historical rates of return of the S&P 500 one month, three months, six months and twelve months after a rate cut actually happens and long story short, this is pretty much the key numbers that I want you to hone in on is that 12 months from the time that the Fed drops rates, two thirds of the time, at least historically speaking, the market has actually reacted in a positive way. On average, 5.5%. But if you take all these different numbers and strike out the outliers, you get more like a 10 percent rate of return. Of course, I'll say this like I say all the time, there's no promises here, all this is saying is that historically speaking, the market typically responds positively.
Historically, the majority of the time the market has performed in a positive way after a rate cut 12 months after the rate cut has actually happened. But long story short, history is never something that you can rely on for future returns. So that's all I have for today's Coffee with Waymark. I hope this was helpful.
And remember, be well and do good. Take care.
Brendan is the Managing Director for Waymark Wealth Management. He has extensive experience in comprehensive wealth management. His focus includes retirement planning, behavioral finance, investment portfolio construction, education funding, insurance & risk management, taxes, charitable giving, and estate planning. Brendan has an ability to take clients' complex visions and distill them down to simple action plans, helping them move from where they are today to where they want to be tomorrow.
Securities and advisory services offered through LPL Financial, a registered investment advisor. Member FINRA/SIPC.
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The opinions voiced in this video are for general information only and are not intended to provide specific advice or recommendations for any individual.
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