The Federal Reserve cuts interest rates to start a new cycle! How will the stock market perform? Which sectors are the most favored?

The interest rate cut declaration on September 18 ignited the global investment community’s focus—The Federal Reserve lowered the federal funds rate by 50 basis points to a range of 4.75%-5.00%, marking the first rate cut cycle since March 2020. The 50 basis point adjustment exceeded expectations, signaling a shift from a tightening to an easing monetary policy era.

The question arises: Under the influence of rate cuts, will the stock market rise or fall? The answer is not so straightforward.

Why Are Rate Cuts Made? The Five Major Considerations of Central Banks

The Federal Reserve does not cut rates without reason. The background of this decision warrants a detailed look:

Labor Market Turning Toward Easing: The unemployment rate has risen from 3.80% in March this year to 4.30% in July, triggering a “recession warning signal” under the Sam rule. Although it slightly retreated to 4.20% in August, upward pressure remains. In the short term, the labor market is expected to gradually shift from tight to loose, which is the core basis for the Fed’s dovish stance.

Persistent Weakness in Manufacturing: The ISM Manufacturing PMI has been in contraction territory for five consecutive months, reflecting weakening economic momentum. Consequently, the Fed has lowered its 2024 GDP growth forecast from 2.1% to 2.0%.

Generally, central banks consider rate cuts in scenarios such as: slowing economic growth to stimulate corporate investment and consumption by lowering financing costs; addressing deflation risks by increasing money supply to stabilize prices; providing liquidity during financial market instability; enhancing economic resilience against external shocks; and restoring economic vitality during emergencies (pandemics, natural disasters, etc.).

Four Possible Scenarios for the Stock Market Under Rate Cuts

Will history repeat itself? Not necessarily. Goldman Sachs macro strategist Vickie Chang has systematically summarized: Since the mid-1980s, the Fed has implemented 10 rate cut cycles, of which 4 were associated with recessions, and 6 were preemptive or mild adjustments.

Key Insight: When the Fed successfully prevents a recession, stocks tend to rise; when it fails, stocks tend to fall.

Let’s review the recent four rate cut cycles and their stock market responses:

2001-2002: Bubble Burst, Rate Cuts Fail to Prevent Recession

The dot-com bubble burst was already a settled matter by 2000. Facing slowing economic growth, the Fed began rate cuts in January 2001, but corporate earnings expectations continued to decline, and high valuations in tech stocks made reversal difficult.

The results were devastating: the Nasdaq index fell from 5048 in March 2000 to 1114 in October 2002, a decline of 78%; the S&P 500 dropped from 1520 to 777, about a 49% decrease. Market confidence was shattered, and the stimulative effect of rate cuts was limited.

2007-2008: The Black Hole of the Financial Crisis

The Fed gradually raised rates from 2004 to 2006 to 5.25% to combat housing overheating and inflation. But in September 2007, the subprime crisis erupted, severely damaging banks and freezing credit markets, forcing the Fed to turn to rate cuts.

The problem was that the economy was already mired in recession—unemployment rising, corporate bankruptcies, consumer collapse—making rate cuts slow to take effect. The S&P 500 plummeted from 1565 in October 2007 to 676 in March 2009, a decline of nearly 57%; the Dow Jones Industrial Average fell from 14,164 to 6,547, down 54%.

2019: Successful Preemptive Rate Cuts

This time was different. Between 2015-2018, the Fed completed normalization of rates (from 0.25% to 2.5%), and by July 2019, faced with slowing global economy and trade uncertainties, it adopted preemptive rate cuts.

This move effectively boosted market confidence, interpreted as the Fed’s support for continued economic expansion. Corporate earnings remained stable, growth sectors like tech performed strongly, and positive signals came from US-China trade negotiations. The result: the S&P 500 rose about 29% for the year (from 2,507 to 3,230, reaching new highs); the Nasdaq increased 35% (from 6,635 to 8,973).

2020: Unconventional Rate Cuts with Massive Policy Easing

The COVID-19 pandemic struck suddenly, causing the S&P 500 to plunge from 3,386 in February to 2,237 in March, a drop of 34%. The Fed responded with emergency rate cuts twice in March to a range of 0-0.25%, and launched quantitative easing.

Massive monetary and fiscal policies injected liquidity, and the pandemic accelerated digital transformation, benefiting tech companies. As vaccine progress and recovery expectations grew, market confidence was restored. The S&P 500 rebounded to 3,756 by year-end, up 16%; the Nasdaq surged 44%.

Summary of Rate Cut Impact on Stock Performance (Within One Year):

Who Are the Biggest Winners During Rate Cut Cycles?

Different industries react very differently to rate cuts:

Tech Stocks: Darlings of Growth Cycles

Tech tends to perform best after rate cuts. Low interest rates increase the present value of future cash flows (favorable for high-growth stocks), and reduce financing costs, aiding R&D and expansion. Data shows that in the 2019 rate cut cycle, tech stocks rose 25%, and in 2020, surged 50%. The only exceptions are 2001 (-5%) and 2007 (-25%), when recession fears overshadowed the benefits of rate cuts.

Financial Stocks: The Spread Is Key

Bank stocks have a more complex story. Initially, rate cuts compress net interest margins (the spread between deposit and lending rates), pressuring profits, and leading to underperformance. In 2001, financials rose modestly by 8%, but in 2007-2008, they plunged by -40%. Only when economic outlook improves and banks no longer worry about bad debts do financial stocks rebound. In 2019, they rose 15%; in 2020, up 10%, both during economic recovery phases.

Healthcare and Consumer Discretionary: Stable Growth

These sectors benefit from increased consumer purchasing power. Lower borrowing costs encourage spending, especially on big-ticket items (renovations, travel, luxury goods). Consumer discretionary rose 40% in 2020, healthcare 25%, demonstrating the stimulative effect of rate cuts on consumption.

Energy Stocks: The Most Variable

Energy performance is highly unpredictable. On one hand, increased economic activity boosts demand; on the other, oil price volatility, geopolitical issues, and global supply chains impact energy stocks. In 2001, they rose 9%; in 2007, fell 20%; in 2019, rose 5%; in 2020, fell 5%. Overall, their response is irregular.

Performance of Various Industries 12 Months After Rate Cuts (%):

Rate Cut Pace and Observation Windows in 2024

Federal Reserve Chair Powell stated at the American Business Economics Association Annual Meeting on September 30 that the Fed is not in a hurry to cut rates rapidly and may cut twice more this year (a total of 50 bps). This suggests that the meetings in November and December could each cut by 25 bps, following traditional pace.

Key dates to watch:

• November 7: FOMC Meeting
• December 18: FOMC Meeting

The market generally expects a soft landing for the US economy, but risks such as rising inflation, increasing energy costs, port strikes, and geopolitical conflicts remain. The latest MLIVPulse survey shows 60% of respondents are optimistic about US stocks in Q4, 59% prefer emerging markets over developed markets, and many are avoiding traditional safe-haven assets like US Treasuries, the US dollar, and gold.

The Two Sides of Rate Cuts: Dividends and Risks

Economic Benefits of Rate Cuts: Lower borrowing costs directly benefit consumers and businesses—more willingness to buy homes, cars, and invest in expansion. Debt-servicing costs for households and companies decrease, improving cash flow and easing economic pressure. Additionally, low rates provide liquidity to financial markets, reducing systemic instability, especially during economic slowdowns or crises.

Economic Risks of Rate Cuts: Excessive rate cuts can lead to runaway inflation—overheating consumption and investment, rising prices, and higher living costs. Asset bubbles may form and burst, triggering financial crises. Prolonged low rates encourage over-borrowing by households and firms, increasing systemic fragility.

Current Balance: The 2024 rate cuts are preemptive, aimed at releasing liquidity early when recession signals appear, rather than responding to an actual crisis. The key challenge for the Fed is to precisely calibrate the pace of rate cuts—supportting the economy without fostering new bubbles through excessive easing.