Last week the Federal Reserve decided to lower interest rates for the third time this year. In July, when the Fed announced the first interest rate cut, recession fears spiked. A reaction that is not completely unjustified; after all, the last time the Fed cut rates was in July 2007, right before the financial crisis.
The financial crisis scarred investors and our society in ways that we still don’t fully understand. So naturally, when something happens that suggests [just maybe] another crisis might be around the corner, the media jumps on it. After all, it’s their job to get your attention; they only make money if they have it.
However, if we look back at the history of Fed decisions, we’d find that the Fed cutting rates isn’t always a precursor to doom and gloom. The chart below shows the history of the Federal Funds rate (blue) and recessions (red shaded areas).
More times than not, the Fed is cutting rates because of a recession. However, there are some instances when the Fed cuts rates and a recession did not occur. This time around, the Fed is having to adjust to slowing global growth caused, at least in part, by the US/China Trade War.
The key question for investors is, will the trade war will cause the US economy to fall into a recession? If we side-step a recession, history suggests the stock market can move higher in a hurry. The chart below covers the same time period as the chart above, but includes the forward return for the S&P 500 over the next 12 months. When the Fed cuts rates and manages to avoid a recession (green circles), the stock market tends to rise 20% or more over the subsequent 12 months (bottom panel below).
So, are we entering a recession? Our research aims to answer that exact question. We use thousands of pieces of data to sniff out when the economy has lost its footing and is heading toward a recession.
If you’d like to learn more about our research, contact us.