Will Interest Rates Go Up or Down Next?
Whether or not the Fed cuts rates depends on if inflation is headed higher or lower in the short run. The Fed historically raised rates at one of the fastest paces ever in 2021 and 2022, causing the stock market to sharply decline before rallying to all time highs in 2026. During COVID, the Fed famously called inflation “transitory,” meaning higher prices were simply due to supply chain shocks from shutdowns rather than an embedded economic reality. If you remember Milton Friedman though, you would have thought of his famous take on inflation, that it is “always and everywhere a monetary phenomenon.” Simply put, Friedman believed inflation was caused by money printing, not just businesses raising prices for the fun of it.
We believe Friedman was right. The Fed printed nearly 45% more dollars into the economy during COVID and as a result, almost all prices rose 45% or more in the aftermath of 2020. That’s why the Fed had to rush and catch up by raising rates from near zero to over 5% in short order. The result was a massive re-pricing of equities during 2022. We also saw a mini-recession in 2022 that almost no one wanted to discuss. But the reality is, when the Fed dramatically hikes rates, asset prices tend to go lower in the short run.
Today with the newly confirmed Fed Chair, Kevin Warsh, many people expected rates to go lower, but so far, Warsh hasn’t provided the relief markets wanted. Now, markets are pricing in rate hikes for December 2026. It shouldn’t surprise us though, the bond market called the Fed’s bluff and already priced in higher rates. And that’s how it normally works, the Fed thinks it leads the bond market, but rather its the bond market that tends to lead the Fed. Look at the 10 year Treasury, now sitting just shy of 4.7% (as of August 16th, 2026).
Does this spell trouble for the economy or stock market? If you look at historic interest rates, 4.7% isn’t really that out of the ordinary. Neither are mortgages in the mid 6% range. While higher than recent history, interest rates are actually quite normal and not overly restrictive. With rates at higher levels for the past 4 years, the market continues to rise, consumers continue to spend, and GDP continues reaching all-time highs almost every quarter. While many Americans are feeling the day-to-day crunch of higher prices, the bulk of asset owners have seen their values rise higher than the cost of goods. For example, home prices are up, stock prices are up and other asset prices have risen more than the 45-50% increases in goods and services we’ve witnessed since 2020. That’s why assets and equities in particular have tended to be the best inflation hedge over the long run (Stocks for the Long Run, Dr. Jeremy Siegel).
Where does Iran play into the future path of interest rates? Higher oil prices are a problem for almost all Americans because of their impact on immediate purchasing power. Americans are on average paying $610 more for gas per year than they did before the war started. However, we still pay less for fuel than most European countries which has insulated the U.S. from what could be much more damaging supply shocks. Until the Strait of Hormuz returns to full capacity, U.S. consumers can expect to see elevated prices at the pump, one reason why the Fed could keep rates higher for longer.
Despite higher fuel prices though, many other prices are declining. Home prices are down over 7.2% since 2022, used car prices are down almost 17% and new car prices have plateaued since their peak in 2023. Sticky price inflation (less food and energy) has come down dramatically since its peak in December 2022 and consumers are seeing relief in goods prices in particular. During COVID, consumers traded spending on services (restaurants, travel, etc.) for spending on Pelotons, Traeger Grills, and Amazon orders. We believe we’re still in the early innings of services spending with travel seeing a massive rebound.
All that being said, we think higher prices and persistent inflation could be here for awhile thanks to three global structural trends that are almost impossible to reverse. Baby Boomers, Millennials, and the growth of emerging markets is driving demand despite what interest rates do. In fact, for many wealthy families, higher interest rates actually make them wealthier than they were pre-COVID.
Because of this, we don’t think the Fed will cut rates any time soon. In some ways, the current environment is emblematic of the 1980’s where we had booming productivity thanks to technology, reasonable tax rates and regulation, and economic growth that continued for a few decades. At some point a market correction and economic recession will occur, but this period could be marked by high inflation alongside high growth, not a bad setup for equity prices over the long run.
We favor stocks that can utilize technology to reduce input costs, not just technology companies themselves. If you pay attention to valuations and growth rates, there is return to be had in any environment, even the higher rate environment we’re living in today.
This is not investment advice. Consult with a financial advisor before making any investment decisions. Past performance is not a guarantee of future results.
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