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How do stocks, bonds, and cash behave when the Fed starts to lower rates?

How do stocks, bonds, and cash behave when the Fed starts to lower rates?

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6 FEB, 2024

By Duncan Lamont


Duncan Lamont, Head of Strategic Research at Schroders

The average return of US stocks has been 11% higher than inflation in the 12 months following the start of interest rate cuts by the Federal Reserve. Stocks have also outperformed, on average, by 6% state bonds and 5% corporate bonds.

Cash has been even further behind. Stocks have outperformed cash by an average of 9% in the 12 months following the start of rate cuts. Bonds have also been a better option than cash.

These are the conclusions of a new long-term analysis we have carried out on the performance of investments during 22 interest rate cut cycles in the US since 1928 (Chart 1).


Stocks prefer to avoid a recession, but usually even when there has been a significant drop in economic activity, they have done well

These returns are even more impressive considering that, in 16 of the 22 cycles, the US economy was already in recession when the cuts began, or entered one in the following 12 months.

The dates of the recessions are marked in chart 1 and shaded in chart 2.

Stock returns were better when a recession was avoided, but even if it was not avoided, they were still on average positive.

There are big exceptions and, obviously, a recession is not something to welcome, but -for stock investors- it has not always been something to unduly fear.


Fixed income investors, on the other hand, tend to do better if a recession occurs. They usually benefit from the purchase of safe haven assets (especially sovereign bonds), which lowers yields and raises bond prices. But they have also done well if a recession has been avoided.

Corporate bonds have outperformed government bonds, on average, in the scenario of greater economic recession.

The range of historical returns is wide for stocks and bonds, but both have tended to do well when the Federal Reserve has started to cut rates.

Current Outlook

Unlike most historical episodes, the Federal Reserve is not considering cutting rates because it is worried that the economy is too weak. It does so because inflation is going in the right direction, which means that policy does not have to be so restrictive.

If it is correct and achieves a "soft landing", 2024 could be a good year for stock and fixed income investors.

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