Interest Rate Cuts by the Federal Reserve Could Impact U.S. Equity Investors
A potential cut in interest rates by the Federal Reserve in the coming year may not bode well for U.S. equity investors, warns Hugh Gimber, global market strategist at JPMorgan Asset Management. Traditionally, stocks have experienced rallies whenever central bankers signaled a more accommodative monetary policy, hoping that lower borrowing costs and decreased inflation would be favorable for the market. However, Gimber believes that Fed cuts in 2024 would align with declining corporate earnings, which could pose challenges for stocks.
Gimber explains that the reason behind the anticipated Fed cuts is not a smooth return to target inflation, but rather a response to emerging weaknesses in the growth outlook. Speaking on HaberTusba’s “Squawk Box Europe,” he states, “And that is clearly not a very positive scenario for equities, particularly when you think about what is baked into earnings numbers.” Analysts are currently projecting a 12% earnings growth for the S & P 500 as a whole in 2024. However, interest rate markets are indicating a more than 55% probability of an interest rate cut in July 2024, with another cut expected by November next year, according to data from CME’s FedWatch Tool. Gimber sees these two data points contradicting each other.
Cracks in the Growth Outlook
Gimber believes that the upcoming third-quarter earnings season will reveal cracks in the growth outlook, leading to lower forecasts. He predicts that analysts will revise down the 2024 earnings figure as the season progresses. While areas like autos, supported by a backlog of supply constraints, may have relatively stable margins, industrial sectors such as chemicals are already showing weakness. Gimber anticipates further markdowns of earnings by analysts in these sectors.
Given this outlook, Gimber suggests favoring fixed income investments over equities at present. He highlights the income potential from bonds with record-high yields. The 10-year U.S. Treasury yield reached its highest level since 2007, surpassing 4.9% on Wednesday following better-than-expected retail sales data. Within the equity market, Gimber recommends focusing on more defensive sectors that can weather a slowdown in growth. He mentions the U.K. as an example, with higher energy exposure and characteristics of defensive sectors. Additionally, he finds selectively investing in emerging market local currency debt attractive, as countries like Brazil, Mexico, and South Africa still have room to cut rates compared to developed markets.