At the moment, the buzz in the market revolves around a singular topic: the expected interest rate cuts by the Federal Reserve in the coming year. The Fed is hinting at the possibility of three interest rate reductions in 2024, which is more aggressive than I anticipated. This development holds immense significance. Decreasing interest rates typically have a positive impact on stock prices, especially for companies focused on growth that rely on future earnings.
Stocks recently surged following the press conference where the Fed announced they would most likely be cutting rates in 2024, but is there room for further upside? The chart above suggests there is. So what should you do?
Consider these three key points for your investment portfolio:
Revisit Fixed Income and Avoid Excessive Cash Holdings: While cash is paying 5% right now, holding too much cash in your portfolio might erode potential returns - especially if central banks implement more rate cuts than initially expected. This could be an opportune time to secure some reasonably stable bond yields. While we've had a recent drop in bond yields they are still reasonable and might not be going any higher (unless inflation takes hold again).
Don't rule out emerging markets: A decline in US interest rates might weaken the US dollar, subsequently reducing Treasury yields. This shift is likely to benefit emerging market economies and their respective stocks. Meanwhile, in the US, sectors like small-caps, value stocks, and REITs could be a good place to look.
The market could rally further: Currently, due to historically high interest rates, investors have parked nearly $6 trillion in cash through money markets and short-term instruments. If borrowing costs decline in 2024, it’s plausible that yields will follow suit. This potential scenario could redirect a significant portion of the $6 trillion assets into stocks and other higher-risk investments, significantly amplifying the market.
In summary, the looming prospect of interest rate cuts by the Fed suggests potential shifts in investment landscapes.