After Final Discount Rate Hike

Todd Buchholz was on CNBC this morning. I have recommended his book "New Ideas from Dead Economists" in the past. He may be a good decent economist, but he offers investment advice that is historically unsupportable.

Specifically, this morning he made this statement :

"Every money manager in the country has a little file. It says what to do when the Fed says we’re done. And there’s only one word in that file. Ands its says ‘Buy. Buy stocks, buy bonds.’ "

Buchholz is a recent (former) White House advisor, so that in part explains the cheerleading. But his clever "Join the Crowd" way phrasing things has an emotional appeal. However, the statement he made it is less than factually accurate (and it certainly isn’t precise).

Why? Because numerous studies have revealed that sustained institutional buying is NOT what actually occurs after the Fed finishes their rate hiking cycle. At leats, not in most cases.   

In February, we discussed the Ned Davis Research study on post Fed cycle markets. NDR determined that since 1929, the Standard & Poor’s 500 was
actually lower six months after the last rate increase 71% of the time, and down
64% of the time 12 months later.

As we noted earlier, bulls (like Buchholz) are now expecting an all-clear signal from the Fed. That is far from a sure thing. Ed Clissold, senior global analyst at Ned Davis Research, observed: "There’s quite a bit of talk about the market doing better once the Fed stops. However, more often than not the market has struggled after the last rate hike."

This thesis has been confirmed by Investech Research. In the majority of past Fed tightening cycles, stock prices were lower six months after the final rate hike:

Spx_gain_loss_1

Source: Investech Research

>

In 10 out of 14 occurences, markets were appreciably lower 6 months later. 2 of the 4 periods where markets did not sell off — 1989 and 1995 — were smack in the middle of major secular Bullmarkets. In 3 of those 4 cases, the Fed had hiked only 4 times or less.

As Mark Twain was reputed to say, "History doesn’t repeat — but it rhymes."

The question for those who like to study these historical precedents is simply this:  Are we in a situation similar to 1980, where 6 months after the last of 14 hikes the SPX was 8% higher? Or, is another era more analogous — 1931, 1957 or even 2000?

Print Friendly, PDF & Email

What's been said:

Discussions found on the web:
  1. bsteve commented on Apr 19

    Janet Yellen on Power Lunch at noon today.

  2. Ned commented on Apr 19

    perhaps then is should be: “One and we’re all done” to the upside.

  3. Michael C. commented on Apr 19

    I would think the market rallies ever so briefly when the Fed stops tightening only because it collectively breathes a sigh of relief. But fundamentally, what you said couldn’t be more true.

    >>>But the end of the rate hiking cycle will occur when the Fed sees the expansion phase of the economy ending. And in most cases, when economic expansion ends, often Bull Markets do too. <<< Unlike what this analyst is saying, the Fed model I follow is ready to issue a sell signal once the Fed stops tightening. It has had a buy signal all throughout the Fed tightening.

  4. john commented on Apr 19

    Yes, but – when the fed stops tightening the “market” (in quotes because it is meaningless) may go down but as Bollinger pointed out ever so cleverly many years ago now – low volatility leads to high volatility and vice versa. Consequently the end of fed tightening only means a momentary lapse of time until the fed begins “loosening” because, as usual, they will have overwound the spring. That means that real estate resumes its burn, bankers start getting a bid and the whole thing starts over again. It truly does not matter where the SPX is 6 months after the fed is done because the SPX will then begin to rise again from the ashes.

  5. Barry Ritholtz commented on Apr 19

    Ned,

    Thats a great line — I may have to steal that!

  6. fred hooper commented on Apr 19

    Any progress Barry?: “Have I got a gold chart for you later!”

  7. DG commented on Apr 19

    We did our own study on both the Dow and S&P and found exactly the same general idea. Six months later the market has shown no appreciable gain. Its only then, that it begins to rise and that is not guaranteed. The market really only begins to rise when rate CUTS begin to take effect. Everything else is, more or less, irrelevant.

  8. Ricardo commented on Apr 19

    To the stock markets, the world be damned!! Iran, who cares when you have massive liquidity in the US. Y’days strong rally clearly signals to the Fed that there is still more room to raise, and it will! I can’t imagine how $70+ oil is good for inflation.

  9. McSwiggen commented on Apr 19

    Wonderful, useful observations. Esta Bien.

  10. Michael C. commented on Apr 19

    I’ve seen many of these charts and data about what happens once the Fed stops tightening.

    But I haven’t seen whats more important at this time. What happens in the 1-3 month timeframe PRIOR to the Fed halting? Because that’s where we are at. Do we get a superspike rally?

  11. D. commented on Apr 19

    Little file? I guess that’s why I’m such a pessimist, no one ever told me about that little file!

  12. Reasoned Investing commented on Apr 20

    links for 2006-04-20

    The Big Picture: After Final Discount Rate Hike Since 1929 the S&P 500 was lower six months after the last rate increase 71% of the time. (tags: Federal Reserve Investing MarketHistory) stocktickr blog ┬╗ Blog Archive ┬╗ Interview with…

  13. xmiles commented on Apr 20

    If that little file is right about bond market, I would go for short end rather than long end. We could have plenty of reasons for the curve to steepen but not a whole lot for it to invert. Term premium needs to be normalized.
    And also inflation premium will come into play. We have seen rigidity of general prices relative to higher and higher oil prices, probably due to technology improvement, labor efficiency and global competition etc. The same reasons could cause inflation to go even lower if oil and other commodities turn around. This asymmetric rigidity can bring down running inflation but maybe not long-term inflation expectation, especially when upside inflation targeting becomes standard policy mindset.
    I won’t be surprised if yield for 10yr treasury bond rise after Fed stop/pause. Short end is much safer. Of course, for buy-and-hold investors, if you buy 10yr bond, you are not very likely to lose more than the coupon on mark-to-market basis.

  14. Steve Connor commented on Aug 10

    I would go with the contrarian opinion that everyone says market would take a dive post fed rate pause, and even the historical data indicates that. So I would go long here and see how the overall global economy improves over the next 6 months.

  15. Steve Connor commented on Aug 10

    I would go with the contrarian opinion that everyone says market would take a dive post fed rate pause, and even the historical data indicates that. So I would go long here and see how the overall global economy improves over the next 6 months.

  16. Steve Connor commented on Aug 10

    I would go with the contrarian opinion that everyone says market would take a dive post fed rate pause, and even the historical data indicates that. So I would go long here and see how the overall global economy improves over the next 6 months.

  17. Steve Connor commented on Aug 10

    I would go with the contrarian opinion that everyone says market would take a dive post fed rate pause, and even the historical data indicates that. So I would go long here and see how the overall global economy improves over the next 6 months.

  18. Steve Connor commented on Aug 10

    I would go with the contrarian opinions that everyone says market would take a dive post fed rate pause, even the historical data indicates that. So I go long here and see how the overall global economy improves over the next 6 months.

Read this next.

Posted Under