Economic growth and rate cuts go hand in hand, posing investment strategy challenges for US stock traders

According to the Zhitong Finance and Economics APP, as the Federal Reserve begins a rate-cutting cycle, Wall Street traders are facing a unique challenge in betting on the stock market trend - history is no longer a guide.

When interest rates fall, the classic trading strategy is to buy stocks in industries considered defensive, as the demand for these industries is not affected by economic conditions, such as essential consumer goods and healthcare. Another popular trading strategy is to buy stocks in industries that pay high dividends, such as utilities. This is because the Federal Reserve usually cuts rates to combat economic weakness or boost an economy already in recession. During this period, stocks in growth industries like technology often tend to be affected.

However, this situation is not happening now. Instead, the economy is growing, stock indices are hitting historical highs, corporate earnings are expected to continue growing, and the Federal Reserve has initiated a rate-cutting cycle with a 50 basis point reduction.

Frank Monkam, Senior Portfolio Manager at Antimo, said, "In a fairly loose financial environment, the Federal Reserve has chosen to cut rates significantly. This is a clear signal that stock investors should take fairly aggressive positions." "Traditional defensive stocks, such as utilities or essential consumer goods, may not be very attractive."

So where should stock investors focus their attention? Walter Todd, President and Chief Investment Officer of Greenwood Capital Associates LLC, suggests that financial sector stocks are a good choice. He is buying stocks of regional banks such as Bank of America (BAC.US), JPMorgan Chase (JPM.US), and PNC Financial Services Group (PNC.US). Walter Todd said, "The Federal Reserve's rate cut should lower the financing costs for banks. They will pay less in deposit interest than before, which should help their net interest margin."

David Lefkowitz, Head of U.S. Equities at UBS Global Wealth Management, also favors financial stocks and the industrial sector closely related to a strong economy.

This positioning contradicts historical experience. Data compiled by Strategas Securities shows that in the past 30 years of four rate-cutting cycles, investors have chased stocks in sectors such as utilities, essential consumer goods, and healthcare, which pay high dividends and are popular with income-oriented investors as bond yields decline.

Strategas Securities data also shows that looking six months after the first rate cut in the above four rate-cutting cycles, the best-performing sector was utilities, with an average increase of 5.2%; the technology sector performed the worst, with an average decline of 6.2%; real estate, non-essential consumer goods, and financial sectors also experienced significant declines.

Historically, in the case of a rate cut by the Federal Reserve and a strong economic performance, overall bullishness has been a successful strategy. Data from Bank of America shows that since 1970, as long as the economy avoids a recession, the S&P 500 index has averaged a 21% increase in the year following the first rate cut in an easing cycle.

More importantly, in the past nine easing cycles, eight have occurred when corporate profit growth was decelerating. However, Savita Subramanian, head of US stocks and quantitative strategy at Bank of America, pointed out that currently corporate profits are expanding, which is favorable for cyclical stocks and large-cap stocks. She stated, "The Fed doesn't have a script. Each easing cycle is different."

Currently, investors seem to be re-entering large-cap tech stocks and other growth stocks in the market. According to bulk broker data from Goldman Sachs, hedge funds last week had the highest net buying pace of US tech, media, and telecom stocks in four months.

Meanwhile, as interest rates are falling, other investors are attracted to stocks that will benefit from increased spending by Americans. Phil Blancato, CEO of Ladenburg Thalmann Asset Management, said, "Consumers are going to be very excited. Once the rate cut boots hit the ground, consumers getting mortgages will stimulate spending, whether it's in the real estate market, auto market, or year-end spending."

Joe Gilbert, portfolio manager at Integrity Asset Management, believes that mall operators like Simon Property Group (SPG.US) and the industrial sector of the real estate industry such as Prologis have opportunities. Joe Gilbert said, "Many real estate companies have debt that needs refinancing. We believe low rates will certainly help them."

Utility stocks are also popular, but not because of their dividends. Mike Bailey, research director at Fulton Breakefield Broenniman LLC, stated that these companies are involved in the artificial intelligence field by driving the development of AI technology, which is attracting investors. In fact, the utility sector has performed very well this year, rising by 26%, making it the second best-performing sector in the S&P 500 index, to the point where their valuations may be becoming too high.

Mike Bailey said, "It's hard to know if we've already priced in all the good news for the utility sector. It feels like these companies may not see another wave of outperforming the market."

That being said, in this crazy bull market, everything seems possible—at least for now. Investors have shrugged off concerns about overvalued tech stocks, increased volatility, US political uncertainty, and slowing hiring. Almost no Wall Street analyst predicts the S&P 500 index to surpass 5700 points by the end of 2024 The index closed at 5702.55 points last week, up 20% since last year's 24% increase. Phil Blancato said, "This is the best scenario. By the end of this year, the S&P 500 index may have a chance to approach 6000 points."