When the Federal Reserve makes decisions about interest rates, investors around the world hold their breath and wonder what comes next for their portfolios. December’s upcoming Fed meeting has everyone talking, with an 85% chance of another rate cut on the horizon. But will this decision send markets soaring or stumbling?
History offers some encouraging clues about what might happen next. The S&P 500 has averaged impressive 13% gains in the twelve months following Fed rate cuts, with positive returns occurring 93% of the time. Even better news comes when rate cuts happen during healthy economic times rather than recessions. In those scenarios, average returns have reached about 18%, with perfect success rates across all measured periods.
Rate cuts during economic expansion have delivered exceptional results, with the S&P 500 averaging 18% returns and perfect success rates.
The current economic backdrop looks fairly solid, which could work in investors’ favor. The U.S. economy continues expanding with strong corporate earnings supporting growth prospects. Recent fiscal policies have lowered corporate tax rates and increased deductions, giving businesses extra breathing room.
Combined with falling borrowing costs, these factors help boost corporate profit margins. The Fed has already trimmed rates by 1% since late 2024, bringing the current target range to 3.75% to 4.00%. Officials expect rates to reach 3.6% by year-end and 3.4% by 2026, with three additional cuts planned throughout next year.
This gradual approach suggests policymakers want to support growth without shocking the system. Market reactions have been largely positive so far. The S&P 500 sits near all-time highs, and both stocks and bonds have outperformed cash investments this year. The market’s momentum has been particularly strong, with the S&P 500 gaining 12.9% through September while reaching multiple record highs.
Lower interest rates typically reduce business borrowing costs while making stocks more attractive compared to savings accounts or certificates of deposit. Of course, some risks remain on the table. Economic growth has slowed somewhat, and the labor market shows signs of cooling.
Inflation might settle around 2.5% to 3% rather than returning to previous ultra-low levels. However, the combination of gradual rate cuts, solid corporate fundamentals, and supportive fiscal policies creates a generally favorable environment for markets heading into 2026. Understanding market emotions can help investors avoid making decisions driven by fear or euphoria during these pivotal Fed decision periods. Defensive sectors like healthcare and consumer staples have underperformed this year as investors favor growth-oriented investments in the lower rate environment.
