Cutting Rates, Boosting Stocks?
When the Federal Reserve (Fed) begins to ease monetary policy without a recession, historically the market has responded favorably.
When the Federal Reserve (Fed) begins to ease monetary policy without a recession, historically the market has responded favorably.
- Historically, when the Fed has eased monetary policy while economic growth remains intact, the S&P 500 has delivered strong gains over the following two years. The average S&P 500 return was approximately 50%, measured two years after the first rate cut, as shown in the chart above. A little over a year into the current Fed easing this cycle, market performance has been tracking historical patterns.
- Why has monetary easing supported stock prices? Lower interest rates can reduce the discount rate investors apply to future cash flows, boosting valuations when longer term interest rates decline. Easier monetary policy also lowers borrowing costs for consumers and businesses, stimulating spending and investment. The resulting economic activity often supports corporate revenues, profitability, and employment, reinforcing the cycle of growth that underpins higher stock prices.
- With smaller cap stocks lagging for much of the past two years, we believe they may be poised to benefit most from lower rates, as they did in the third quarter of 2025 when the Fed eased and long-term rates declined. In that period, the Russell 2000 small cap index outperformed the S&P 500 by over 400 basis points (see also A Broadening Market).1 In our view, Fed rate cuts, coupled with historically attractive valuations and improving fundamentals, could support small cap performance going forward.
1FactSet, Russell and Standard & Poor’s. From 6/30/25 through 9/30/25, the total return for the S&P 500 Index and the Russell 2000 Index was 8.13% and 12.39%, respectively.
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Russell 2000® Index: Measures the performance of the small-cap segment of the U.S. equity universe. Index performance does not reflect deductions for fees, expenses, or taxes. After March 24, 2025, FTSE Russell implemented a new methodology capping individual companies at no more than 22.5% of the index and capping companies that have a weight greater than 4.5% in aggregate at no more than 45% of the index. Source: London Stock Exchange Group plc and its group undertakings (collectively, the “LSE Group”). © LSE Group 2025. FTSE Russell is a trading name of certain of the LSE Group companies. “FTSE®” “Russell®”, “FTSE Russell®”, “FTSE4Good®”, “ICB®”, “Mergent®, The Yield Book®,” are trade marks of the relevant LSE Group companies and are used by any other LSE Group company under license. All rights in the FTSE Russell indexes or data vest in the relevant LSE Group company which owns the index or the data. Neither LSE Group nor its licensors accept any liability for any errors or omissions in the indexes or data and no party may rely on any indexes or data contained in this communication. No further distribution of data from the LSE Group is permitted without the relevant LSE Group company’s express written consent. The LSE Group does not promote, sponsor or endorse the content of this communication. S&P 500® Index: An index of large company stocks considered to be representative of the U.S. stock market. Index performance does not reflect deductions for fees, expenses, or taxes. The S&P indexes are a product of S&P Dow Jones Indices LLC and/or its affiliates and has been licensed for use by Fred Alger Management, LLC and its affiliates. Copyright 2025 S&P Dow Jones Indices LLC, a subsidiary of S&P Global Inc. and/or its affiliates. All rights reserved. Redistribution or reproduction in whole or in part are prohibited without written permission of S&P Dow Jones Indices LLC. S&P® is a registered trademark of Standard & Poor’s Financial Services LLC and Dow Jones® is a registered trademark of Dow Jones Trademark Holdings LLC. Neither S&P Dow Jones Indices LLC, Dow Jones Trademark Holdings LLC, their affiliates nor their third party licensors make any representation or warranty, express or implied, as to the ability of any index to accurately represent the asset class or market sector that it purports to represent and neither S&P Dow Jones Indices LLC, Dow Jones Trademark Holdings LLC, their affiliates nor their third party licensors shall have any liability for any errors, omissions, or interruptions of any index or the data included therein. Investors cannot invest directly in any index.
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