It's common for investors to believe that the stock market will drop following a rate hike, but as we'll see, it's not always that simple. In this piece, we'll look at some historical patterns of market reactions to interest rate decisions. This is not intended as a forecast, only to give full perspective on the historic results of this signal.
First Rate Hikes to True Top
We've looked at the historical data from 1989, 2000, and 2008, and found that it's common for rate hikes to occur about a year before the real market top. This pattern was observed in the US crashes of 2000 and 2008 and Japan in 1990.
Here's a breakdown of the interest rate decisions and market reactions in those years:
In 1988, the Bank of Japan raised its official discount rate from 2.0% to 2.5% on April 1, 1988. The Nikkei 225 index, peaked on December 29, 1989, about 21 months after the first hike.
In 1999, the Federal Reserve raised the federal funds rate from 4.75% to 5.5% between June 1999 and May 2000. The S&P 500 index, peaked on March 24, 2000, about 10 months after the first hike
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In 2007, the Federal Reserve raised the federal funds rate from 4.25% to 5.25% between June 2006 and June 2007. The S&P 500 index, peaked on October 9, 2007, about 16 months after the first hike.
Averages and Implied Forecasts
Using September 2022 as the first rate hike date, the average forecast for the high would be approximately June 2023, with an implied forecast of May 2024, assuming a repeat of historical patterns. Typically, the crash coming 6 - 9 months after that.
Paradoxical Reactions
Interestingly, historical data shows that markets have often rallied from the start of rate hikes, and in some instances, rate cuts have signalled the real high (within 5 - 10%). For example, the S&P 500 index, peaked on September 3, 1929, after the Federal Reserve had cut the discount rate from 6% to 5% in August of that year. Similarly, the market peaked on January 14, 2000, after the Federal Reserve had cut the federal funds rate from 5.5% to 5.25% in May 1999.
Find below a breakdown of the data.
BoJ (Japan):
January 1988: Cut by 10 BPS
February 1989: Raised by 10 BPS
March 1990: Raised by 30 BPS
December 1990: Cut by 10 BPS
Time from first rate hike to market top: 13 months
Time from first rate hike to start of big market crash: 25 months
Fed (US):
June 1999: Raised by 25 BPS
August 2000: Raised by 25 BPS
January 2001: Cut by 50 BPS
Time from first rate hike to market top: 14 months
Time from first rate hike to start of big market crash: 24 months
Fed (US):
June 2006: Raised by 25 BPS
June 2006: Raised by 25 BPS
August 2007: Cut by 50 BPS
September 2007: Cut by 50 BPS
October 2007: Cut by 25 BPS
October 2007: Cut by 25 BPS
December 2007: Cut by 25 BPS
January 2008: Cut by 75 BPS
January 2008: Cut by 50 BPS
January 2008: Cut by 25 BPS
March 2008: Cut by 75 BPS
April 2008: Cut by 25 BPS
April 2008: Cut by 25 BPS
April 2008: Cut by 50 BPS
Time from first rate hike to market top: 19 months
Time from first rate hike to start of big market crash: 22 months