9-24-24: The Fed’s Late-Blooming Flower … Finally Blooms

by Jason Bodner

September 24, 2024

There is a flower that blooms so rarely that it might only bloom once a decade. The Amorphophallus Titanium, better known as the Corpse Flower, blooms for only a few days every few years. Unfortunately, when it finally blooms, it smells like rotting flesh… hence its moniker. It was the basis for a scene in the 1993 movie “Dennis the Menace.” Dennis ruins Mr. Wilson’s party to watch a rare orchid finally bloom.

Since interest rates cratered in early 2020 and then subsequently skyrocketed, investors have been waiting for rates to start their descent back to earth for nearly five years – much like a rare-blooming flower.

Well, it finally happened.

Powell gave us what we wanted when the Fed cut the target rate by 0.50% to a range of 4.75-5.00%.

The Fed’s flower finally bloomed. We knew it was only a matter of time, but like a kid’s punishment with no end date, it seemed like it would go on forever.

More cuts will follow. This chart indicates that we should expect a decline in rates for years to come:

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

Most stock investors know that a rate-cutting cycle is great news for stocks. But perma-bears are still out there drawing silly comparisons to 2008 and other historical calamities. They want you to believe that a recession is coming… but it isn’t. At least, not based on the strong economic data that keeps coming in.

Below, I’ve assembled some data points that show a rosy picture going forward, a picture based entirely on data, not on fearmongering or emotional games. Let’s dig in…

First, the low-hanging fruit… I looked back in history for every time there was a drop of 40 basis points or more in the Fed’s effective rate. I chose 40 bps because, while the cut was 50 bps, the rate is a range of 4.75-5.00%, not a single reading. So, the effective Fed funds rate is often in the middle of the range.

There were 70 instances like September 18th since 1960, but my market data only goes back to the late 1970s, so let’s use that as our cutoff. Since then, there were 40 drops out of 549 observances, meaning this occurred about 7.3% of the time. The forward returns of the S&P 500 were strong, looking forward:

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

It’s an important distinction that we are not currently in a recession, because those 40 instances include several recessions and major crises, such as 1981, 2001, and 2008. These periods were associated with some godawful market returns, at least until the contagions worked their way through the system. Today is not like those times at all. So, in this admittedly biased exercise, I wanted to see what happens when we remove recessions and crisis events from the data set. Needless to say, returns improved dramatically:

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

That’s a rosy picture, and it makes sense; as rates fall, borrowing becomes easier, the consumer has more disposable income, and economic growth has the fuel to continue. Therefore, stocks should pop on this news, and pop they did. But what really matters is what big institutional investors are doing. By now, you know that I spend my time tracking unusual in and out flows of institutional stock investments.

The simplest measure of the trend of money flows is to look at the Big Money Index, a 25-day moving average of unusual money flows in and out of stocks. The BMI just broke out to the upside along with the S&P 500 tracking ETF. Blasting through all-time highs on unusually large volume is great technical news:

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

The unusually large buying we saw on the day after the Fed decision was massive. There were 185 unusually large buys of stocks and ETFs on Thursday, September 19th:

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

The picture is getting rosier. I’ve been harping on the huge upside for small and mid-cap stocks. IWM (the Russell 2000 tracking ETF) blew through highs in July only to collapse and reverse lower. Quietly, it has been climbing higher and sits at a breakout point… again coupled with massive inflows:

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

If we look through another lens, we can see small and mid-cap buying dominated trading last week:

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

We are seeing a great setup. Now let’s compare prior times we saw buying like this. I went back to see days of 185 or more buys since my data began in 1990. This rare flower has only bloomed 166 days out of 8,720 or 1.9% of the time. The forward returns for SPY look great several months from now onward:

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

The 1-week through 1-month returns don’t look so great since the timing window is too short, and also because of seasonality. We are now in September, historically the weakest month of the year. We are also approaching an election, with a tight race, which breeds uncertainty. Wall Street hates uncertainty.

One other major uncertainty, however – over interest rates – is now magically gone.

The picture continues to improve when we look at the unusual buying and selling of individual sectors.

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

As the charts below show, every sector is trending up, with the exception of Technology and Energy. Both, however, are bouncing substantially off their recent lows, so the price action is constructive.

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

What has me even more excited is that there was fresh sizeable buying in Technology and Discretionary stocks. These two sectors are major fuel for past bull markets. I circled them so you can see:

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

The stock market picture looks great for the many reasons I listed above. I stress the opportunity in small and mid-cap stocks as new leadership emerges. Focus on stocks with the magic formula of growing sales, earnings, profits, low debt, great management and history. This will substantially narrow the playing field.

No matter what happens, I urge you not to sit too long in cash and watch from the sidelines. As H. Jackson Browne Jr., said: “Nothing is more expensive than a missed opportunity.”