Interest rates may have reached their peak in the US, according to experts, which means investors may be thinking about how this could impact their portfolio – and how they can take advantage.
The Federal Reserve announced at its latest meeting last week that it was holding interest rates steady between 5.25 and 5.5 percent.
It marked the third time in seven policy meetings this year that the central bank has not raised rates, after a relentless hiking campaign brought borrowing costs up from an all-time low of 0.5 percent in April 2020.
Although Chair Jerome Powell was careful not to completely rule out another increase, he hinted the Fed could be done with hikes for now if inflation – which is currently hovering at 3.7 percent – continues to dampen.
Derek Horstmeyer, professor of finance at George Mason University, said stocks – especially small-caps and growth companies, fare best during periods when interest rates peak and then plateau.
Small-caps and growth companies fare best during periods when interest rates peak and plateau
It is best to bet on these stocks early, his research found, as most of the benefits tend to accrue during the first half of the plateau.
‘We pulled data going back to the 1970s,’ Horstmeyer told DailyMail.com. ‘We looked at the Fed’s fund rate and then isolated six occurrences when interest rates went up, hit a top and then stayed level at that top for three-plus months.
‘We then isolated these six peaks and plateaus and looked at how various stock categories and bonds did.’
According to the research, small-caps had an average annualized return of 27.6 percent during the first half of a rate plateau.
The study used the Russell 2000 Index for small-caps, where the average value for a company was $2.96 billion as of May this year.
Growth stocks had an average annualized return of 26.3 percent during the first half of a rate plateau, the data found.
Those returns cool off in the second half of plateaus for both asset classes – averaging 3.5 percent and 10.2 percent, respectively.
‘Our conjecture is that once interest rates plateau, people become hopeful that a cut will come in the future,’ said Horstmeyer.
‘And so small-cap and growth stocks – which are interest rate sensitive – they really start to take off once there’s a signal that the Fed is done raising rates.’
Derek Horstmeyer, professor of finance at George Mason University, said stocks – especially small-caps and growth companies, fare best during periods when interest rates peak and then plateau
According to the research, the average large-cap stock in the S&P 500 had an average annualized return of 21.4 percent during the first half of rate plateaus – compared with 6.9 percent during the back end.
On the other end of the spectrum, Real Estate Investment Trusts (REITs) and international stocks had some of the weakest annualized returns during times of rate peak and plateaus – averaging gains of 13.8 percent and 13.9 percent, respectively.
Like the other groups, their returns were lower during the second half of plateaus.
The returns are not as good the longer the plateau goes on, Horstmeyer explained, because people are becoming wary that there has not been an interest rate decrease.
‘The second half goes on and people begin to ask why an interest rate decrease has not happened,’ he said. ‘The longer we wait for that interest rate decrease, the more investors are not happy with it.’