Fed Hike Ignites Bull Market Concerns, but History Suggests Strong Recovery

The Federal Reserve raised interest rates by 25-basis-points on Wednesday for the first time since 2023, marking the beginning of a new tightening cycle. This typically leads to falling stock prices as higher rates make borrowing more expensive and pressure valuations, offering investors an attractive alternative to equities.

LPL Financial studied how the S&P 500 performed following the first Fed hike in six tightening cycles since 1994. The initial reaction was rarely comfortable: stocks posted negative average returns during each of the first four months after the initial hike. However, after one year, the S&P 500 delivered an average return of 10.7% and a median gain of 6.8%.

The key lesson from these prior cycles is that rate hikes do not typically derail bull markets, according to LPL Financial strategist Jeff Buchbinder. In fact, he notes that the emerging internet boom in 1997 overshadowed rising borrowing costs, with technology able to win out over higher interest rates for a while.

The current tightening cycle has its differences from previous ones, particularly with artificial intelligence investment driving demand for semiconductors, data centers, electricity infrastructure, and cooling equipment. Additionally, millions of homeowners purchased properties or refinanced mortgages when interest rates were near 3%, resulting in monthly payments that do not increase when the Fed raises rates.