If Rates Go Down, Is Cash Still King?

Originally published in the St. Louis Business Journal, February 2024.

Where we’ve been.

It’s no secret that we’ve been in an upward trajectory for both inflationary prices and interest rates. In the 2022-2023 economic cycle, the Federal Reserve raised rates 11 times in an effort to cool post-pandemic inflation levels.

Impacting nearly everything from home buying and credit card debt to liquidity and business expansions, a complex question asked by most consumers is, “Is the Fed done raising rates?” And, if they’re done raising rates and decide to lower them, “How will this rate reduction impact my investments and overall wealth building strategy?”

Before we delve into how we move forward, I think it’s important to look at where we’ve been. Since 2022, the Federal Reserve’s aggressive monetary tightening has raised short-term interest rates to levels not seen since the 2000s. In this type of rate environment, it’s been very tempting to put your money into cash-favored products because of the safety and income potential the rising rates have been giving investors. This would explain why money market fund assets rose to a record high of $5.98 trillion in 2023.

When we look at the last six rate hikes of the Federal Reserve, those cycles reveal that cash tends to underperform both stocks and bonds in the year after rates peak. Based on research from J.P. Morgan, the S&P 500 and a balanced 60/40 stock-bond portfolio outperformed six-month Certificates of Deposits (CDs) in five of the last six such periods, while the Bloomberg U.S. Aggregate (bond index) outperformed across all six periods.

Since month-end CD rates peaked in September 2023, the S&P and U.S. Aggregate have experienced impressive gains of 12.1% and 6.5% respectively, while six-month CDs have returned a more modest 1.7% over the same period. Undoubtedly, liquidity does serve an important role in investment portfolios as part of your overall asset allocation. But, it’s important to remember, holding too much cash can come at a detrimental cost. Although we do believe in using a laddered approach with secure CDs in your overall portfolio, we certainly don’t want all of your funds in short-term CDs.

When holding too many funds in such cash-favored accounts, your potential monetary gains will not outperform inflation. In addition, you run the risk of not achieving the higher returns often seen in other investment vehicles.

Where we’re heading.

The markets are expecting the Federal Reserve to cut rates at least three times in 2024. This is the perfect opportunity for long-term investors to look at opportunities across equities, bonds, and alternative investments, ensuring they have exposure to investments that have historically generated higher returns and will maximize our new interest rate environment.

Finding the right balance for your investments and portfolio should be based on your unique situation, including your risk tolerance, time horizon for achieving your objectives, and current economic conditions. I recommend working with a trusted advisor to ensure you’re on track for achieving your short and long-term goals.

Visit FirstBankWealth.com or call 800-452-1414 for more information or to schedule an appointment with one of our wealth management experts.
Carla Jackson is a Senior Vice President – Senior Portfolio Manager for First Bank Wealth Management. Possessing nearly 38 years of experience in the financial services industry and a deep knowledge of managing investment portfolios, you may contact Carla at (314) 889-1047 or via email at [email protected].