The Fed finally pulled the trigger.
Interest rates are up another quarter point, and policymakers have left the door open to another hike before year-end.
But it’s not going to last.
Because several of the forces pushing rates higher today — from inflation to a surge in corporate borrowing — could fade over the next few months. And if the economy cools along with them, the Fed could find itself reversing course as soon as spring.
That will have major implications for stocks, particularly the technology and semiconductor names that have been hit hardest by higher rates.
Check out today’s video for the full story:
Video Transcript:
Welcome to Moneyball Economics. I’m your host, Andrew Zatlin.
Well, the Fed finally did it.
They pulled the trigger and they bumped up interest rates a quarter point, and they indicated a willingness to do another rate hike in December. Well, what does this mean for the economy going forward and what does it mean for your investments going forward?
Right off the bat, when you raise interest rates and then indicate a willingness to double down with a follow-on rate hike in the not-too-distant future, what you’re saying is that you believe this economy is strong and getting stronger and it needs to be cooled down.
This is what I’ve been saying all year long, that we have entered a new economic growth cycle, one I like to call the Trump cycle, and the Fed has just validated that. Think of the Fed as trying to cook the ultimate pot of stew, and they’re throwing different ingredients into the stew.
They’ve got consumer spending, very tasty, it’s very strong. And we’ve got the jobs market. Again, labor market, very robust.
At the same time, we’ve got the flames of inflation cooking the stew, making it bubble, and the Fed’s concerned that it might be doing even more than that, that it might be burning the stew. And so they want to bring down the flames a little bit, cool it down a little bit using interest rates as their preferred methodology.
Will it work? Oh, it’ll work. We’ll see inflation come down. One of the reasons is when you raise the cost of borrowing, you’re going to make it harder for some people to buy a home, to buy a car, to take on debt, except the impact takes a while to play out. It takes a while to play out in general, but specifically we’re at the end of the housing season.
There’s not a lot of houses being bought going forward for a few months. So raising interest rates has a little bit more of a diluted impact, which is probably why they say we might need to come back in December and do it again.
For all intents and purposes though, we’re going to see inflation go down for other reasons. The reason we’ve got inflation right now, quite frankly, is for reasons that are about to go away, one of which is tariffs. We raise the costs of buying stuff by adding on tariffs, except it’s been a year. We’ve already lapped that impact.
And so the year-over-year inflation, it’s going to go down from here on out. Same thing, we’ve got higher costs because of an oil shock that kicked in in March. Again, whether or not we have peace with Iran going forward in the next few months, by the time we get to March, the year-over-year impact is pretty much played out.
In any case, inflation’s going to go down regardless of what the Fed does. The Fed is just kind of adding a little bit more to the stew. In fact, when we get here in December, what we’re probably going to see is looking back at the data, we’ll see, like I said, inflation starting to cool down, not for reasons of anything that the Fed’s done, but it’s going to cool down.
The Fed’s going to take credit, which they want to do, and they’re going to look and say, “You know what? It’s cooling down, but it’s not cooling down fast enough. We need another rate hike.” Then we’re going to get to about March and we’re going to find out that not only has inflation come down substantially, but the economy’s starting to cool down. Jobs growth might not be as strong, consumer spending might not be as strong, and so the Fed will reverse and probably do a rate cut.
Now, let’s talk stock market for a second.
As you’re aware, the stock market has been, well, basically hitting a lot of headwinds over the past couple of months. In fact, this week, I told you to expect substantial volatility because of what the Fed’s doing, but that’s only part of it. The stock market has been challenged moving forward, and I want to explain what’s going on. The push to raise interest rates is partly coming out of the inflation environment. It’s also coming out of the market expectations.
The market wants to see interest rates go up because of a basic reason. See, this year, a trillion dollars or more of new debt has been released by the private sector. It’s the AI phenomenon. Google, Meta, Oracle, all looking for a hundred, $200 billion of new debt flotation so they can fund their AI growth, about a trillion dollars or more.
When you release all this debt and all this borrowing, well, the cost of borrowing goes up. So now the Fed has a problem. The private sector debt, well, it’s increased and the Fed has to stay competitive. The central bank has to borrow money. And if investors can get better rates from companies, they’re not going to buy a lot of the treasuries. As a result, the Fed had to raise interest rates just to stay competitive with the private sector.
Guess what folks?
All that AI borrowing is slowing down substantially. So the pressure on interest rates is also going to be going away in the next few months. The Fed’s in a great place with respect to the economy. It’s cooling down by itself. They’re going to accelerate that cooling. Borrowing costs are going to be going down again because again, you’re not going to have suddenly a trillion dollars of new debt issuance.
So again, the Fed can release a little bit of the interest rates there. The stock market though, interest rates are bad, but they’re bad for a particular sector. They’re bad for high tech. If you look at the S&P 500, what you’ll notice is 20% today, the S&P 500 valuation is driven by semiconductor companies. In fact, let’s line up the S&P 500 growth this year against the ETF for semiconductor stocks.
It’s one to one, the growth and now the retraction, the sagging. Semiconductor stocks and the S&P 500 are both getting hit by the increase in interest rates. It’s just the way it is. Positioning for that rate hike, it just clobbers them. At the same time, if we see a reversal in just a few months, you’re going to see the stock market boom again because you’re going to see the semiconductor world boom again and not just semiconductors.
Suffice it to say though, you’re still going to see growth for the rest of the year. I said 15%. At the beginning of the year I said we would end the S&P 500 up 15%. It’s at 11% today, 15% doable, maybe even 20 because we are on fire as an economy and these companies are going to be flashing a lot of revenue growth, earnings growth, and you’re not going to be able to hold that back with a mere quarter point of an interest rate hike.
We are in it to win it folks.
Zatlin out.
Zatlin out.
Andrew Zatlin
Editor, Moneyball Economics