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According to Fundstrat’s Tom Lee, central bankers will want to support equities.
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That’s because the Fed wants a “healthy economy,” and a strong stock market is a key part of that, he said.
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Interest rate cuts have historically been positive for stocks, leading to an average gain of 13% over a six-month period.
According to Tom Lee, head of research at Fundstrat, the ‘Fed put’ is back and stock investors may not have fully priced in the good news.
The high-profile stock market rally highlighted the idea that central bankers could ease monetary policy further at any sign of stock market weakness. That idea had been dashed over the past two years as the Fed aggressively raised interest rates to keep inflation in check.
Still, a supportive environment for stocks could be high on the agenda again for central bankers as they prepare for what is likely to be the first rate cut since 2020, Lee said in a note on Wednesday.
“Most importantly, the Fed is back in the ‘put’ position. That means the Fed’s mandate now primarily supports a strong labor market,” Lee wrote, citing fears that more jobs weakness could signal a looming recession. “That means the Fed wants a healthy economy.”
But a healthy economy depends on consumer and business confidence, which is largely tied to the stock market, Lee said. Even if stocks see a 10% correction, companies could become more cautious, he said, suggesting they could lay off more workers.
A 30% drop in stock prices would “almost certainly” mean a recession because of the impact on the labor market and household wealth, Lee added.
“We think the Fed doesn’t want the S&P 500 to falter,” he said. “The Fed in 2022 probably saw the 27% decline in equities as supportive of their attempt to control inflation and manage inflation expectations. That’s no longer the case.”
According to Lee, a central bank is very bullish on stocks, but investors probably haven’t priced that in. He predicts more gains for stocks to come.
Stocks have historically responded well to Fed rate cuts. Since 1971, the first Fed cut has resulted in positive returns for investors 100% of the time over the next six months, with an average gain of 13%.
According to Lee, there is also room for a “positive surprise” in the stock market, as some investors believe the economy is already in a recession. Lee disagrees.
GDP growth is steady, but three in five Americans believe the U.S. is already in a recession, according to an Affirm survey.
Finally, rate cuts are likely to boost sales of durable goods, autos and homes, which should boost the broader economy, Lee said.
“Keep in mind the Fed is dovish and there is a focus on keeping the labor market strong. We can expect turbulence over the next 8 weeks, but this is also in the context of a very strong equity market in 2024,” he added.
The Fed is scheduled to announce its rate decision at 2 p.m. ET on Wednesday. Investors see a 100% chance of a cut, but are divided on how big it will be. They have priced in a 65% chance that the Fed can cut rates by 50 basis points, according to the CME FedWatch tool.
Read the original article on Business Insider
