This rule means that the Federal Reserve's decisions about interest rates can greatly affect markets and the economy, so investors should pay attention to them. However, it's important to look at the big picture of where interest rates are heading, rather than focusing on each individual Fed decision. This advice is especially important today as the Fed continues to lower rates while dealing with a complicated economic situation.
As most people expected, the Fed lowered policy rates by 0.25% at its September meeting. This continued the pattern of rate cuts that started in 2024. This decision happened when stock markets were near record highs, economic signals were unclear, and there was still uncertainty about tariffs and inflation. Unlike the emergency rate cuts during the 2008 financial crisis or the 2020 pandemic, September's move is the Fed trying to carefully adjust policy to keep the economy growing, rather than responding to a crisis.
For long-term investors, it's important to understand why the Fed is cutting rates and how this situation is different from previous cycles. This knowledge can help with financial planning and investment decisions.
While rate cuts usually help financial markets, the key is keeping perspective and staying focused on long-term financial goals rather than overreacting to each policy change.
When the future is unclear, it's normal for Fed officials and other economists to disagree, leading to different opinions on how many rate cuts are coming and how big they should be.
This is happening today, with Fed officials having very different forecasts for future rates. While many news headlines focus on political disagreements between the Fed and the White House, the truth is that there has been disagreement among Fed officials all along.
Despite this disagreement, it's important to remember a few key facts. First, the Fed had been expecting to cut rates for quite some time. Each of their recently published economic forecasts showed that rate cuts would likely begin this year, even though the number and size have changed based on tariff news and market movements. The Fed's latest forecasts show there could be two more cuts this year, along with an improved growth outlook.
Second, the latest rate cut is fundamentally different from historical cutting cycles that were mostly driven by emergencies. Today's rate cuts continue to reverse the rapid increase in rates that began in 2022 to fight inflation. They also happen during a slowing but still positive economic environment, even though job data might be weakening and inflation is more stubborn than expected. In other words, the Fed cutting rates by one-quarter of one percent to help guide the economy is different from large emergency cuts due to problems with the financial system or an economic crisis.
Third, Fed Chair Jerome Powell's term will most likely end in May 2026. The next Fed leader will be appointed by President Trump, which means short-term interest rates will most likely trend lower. While this could mean that short-term interest rates will likely go down, it's important to remember that long-term interest rates are driven by market and economic forces, not Fed policy. For example, if lower short-term rates were to drive inflation higher, this might accidentally result in higher long-term rates.
So, while this rate cut shows the Fed continuing its path from 2024, rather than a complete change in direction, it also signals the Fed's commitment to supporting economic growth.
The economy added only 22,000 jobs in August, well below what experts expected, and previous months' numbers were revised down significantly. The unemployment rate only went up slightly to 4.3%, however, because fewer workers were looking for jobs. Once again, this is different from past emergency rate cut periods. During the 2008 financial crisis, unemployment jumped from 5.0% to 10.0% and in 2020, it jumped from 3.5% to 14.8%.
Today, the job numbers suggest a more gradual cooling that may reflect a softening of job market conditions. Adding to concerns about job market weakening, recent payroll revisions have painted a more subdued picture of recent job growth than previous data showed. The Bureau of Labor Statistics' annual revision process showed 911,000 fewer new jobs were created from March 2024 to March 2025, suggesting the job market was cooling more rapidly than policymakers realized when making earlier monetary policy decisions. These are preliminary estimates that will be finalized in early 2026.
While a weakening job market would support lowering interest rates, the Fed's concerns around inflation support keeping rates steady, or even raising them if tariffs drive prices higher. The Fed's preferred inflation measure, called the Personal Consumption Expenditures (PCE) Price Index, at 2.6%, remains well above the 2% target. Core PCE (which excludes food and energy prices) is hovering at 2.9%, while headline and core CPI (Consumer Price Index) have remained sticky at 2.9% and 3.1%, respectively. Earlier progress on inflation has not only slowed, but some of the trends have reversed in recent months.
The Fed's job is to balance these factors as part of its "dual mandate" (keeping both employment and inflation stable). The mixed signals these indicators are sending explain why there is disagreement both within the Fed and with the White House. For investors, understanding these trends will likely be more helpful in understanding the economic and interest rate environment than watching the day-to-day political headlines.
While there are some signs of economic weakness, there are not yet signs of a recession. In these situations, rate cuts typically provide broad benefits across financial markets. Lower borrowing costs make it cheaper for companies to finance growth and reduce debt payments. Consumer spending can increase if mortgage and credit card rates decline, boosting demand for goods and services.
One concern with current rate cuts is that the stock market is already near all-time highs. While this is not typical, there have been historical cases when this occurred. For example, under Alan Greenspan, the Fed cut rates three times in 1995 and 1996, calling the cuts "insurance" against economic slowdown. The Fed also made cuts in 2019 at market highs to address global growth concerns. At the latest press conference, Powell described this most recent policy decision as "a risk management cut" due to the Fed's view that "downside risks to employment have risen."
For investment portfolios, history shows that the effects of rate cuts are generally positive across different types of investments. While the past doesn't guarantee future results, stocks typically benefit as lower rates reduce the discount rate for future earnings and improve corporate profitability, especially among growth-oriented businesses. Meanwhile, bonds typically become more valuable due to their higher rates, although this can vary across different types of bonds and time periods. In contrast, cash will likely earn lower returns, making it even less attractive compared to investments like stocks and bonds.
While each economic cycle is unique, dealing with policy changes is a normal part of investing. Importantly, rate cuts are generally supportive for long-term investors, although balancing risk and reward requires a broad understanding of market trends.
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