Morgan Stanley
  • Wealth Management
  • Jun 11, 2019

Don’t Overestimate the Benefits of a Fed Rate Cut

While potential for a rate cut has lifted markets, investors shouldn’t see it as a cure-all for ailing global growth.

I have a lot of empathy for Jerome Powell, who became Chairman of the Federal Reserve early last year and has had to deal with some very confusing economic dynamics. First, the tax cuts and government spending accelerated U.S. economic growth and allowed the Fed to continue hiking rates in hopes of getting them back to a more normal level before the next recession (they have been artificially low since the financial crisis).

But by late last year, global growth was slowing markedly, due in good part to the lagged impact of trade conflicts and new tariffs. Powell’s Fed did a policy pivot early this year, putting its rate hike plans on pause. Now, as the U.S. economy has continued to weaken, Fed officials have indicated that they are open to cutting rates if necessary. Investors, in turn, are now expecting rate cuts as early as this summer, and that has sparked a rally in stocks.

I’m not convinced the ebullience will last. While cutting rates should help stimulate flagging economic growth, it wouldn’t affect some issues that have the potential to spark investor fear and volatility. Below are three current market risks that cutting rates won’t address:

  • Trade conflicts aren’t going away. Conflicts have escalated in recent weeks with China, Mexico and perhaps European auto makers. Meantime, macroeconomic data has continued to deteriorate.

  • There is potential for a hard Brexit, where Britain fully severs its relationship with the European Union. Investors generally are hoping for a softer exit where Britain can keep some existing economic ties to the EU.

  • Antitrust issues loom for tech giants. Recent reports that the Justice Department is considering antitrust investigations into some of the largest U.S. tech firms have impacted the sector. 

I suggest that investors stay cautious. This could be a good time to create watch lists of companies in sectors like financials, energy, materials and select health-care and industrials that could be good buys if selling pressure resumes.

While the potential for a Fed rate cut as early as this month has lifted shares recently, I still see the S&P 500 remaining rangebound throughout this year. There may be opportunities ahead to buy stocks in hard-hit sectors at attractive prices, if a Fed rate cut proves unable to counteract the important market risks still developing.

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