History shows stocks don't need rate cuts to do well — they just need the Fed to stop tightening

With many investors now expecting no more Federal Reserve interest rate hikes in the current economic cycle, CNBC Pro reviewed the history of prior tightening periods to see how stocks fare afterward. The major averages are in full rally mode this month — with the Nasdaq Composite having climbed 11% through Monday — driven in part by falling Treasury yields that enhance the present value of future earnings. The yield on the benchmark 10-year Treasury note dropped to below 4.5% in November after topping 5% just last month. The most recent gains came after last week's report that October inflation had cooled, convincing the market that the Fed was done hiking rates and accelerating investor expectations for when the central bank will start to ease back on policy. According to the CME FedWatch Tool , markets are pricing in a near 40% likelihood the fed funds rate will drop half a percentage point by next July, based on probabilities implied by 30-day interest rate futures pricing data. But there's even more good news in store for equities as some market observers note that the start of stocks' outperformance begins not so much with rate cuts, as with the conclusion of a tightening cycle. According to Invesco's Kristina Hooper, for example, history will show that July 2023 marked the end of the most recent round of rate increases. "I will say definitively the Fed is done hiking rates, and that is critical," the chief global market strategist told CNBC's "Closing Bell" last Friday. "Because what we know is that it is not the start of cuts that is the beginning of strong performance, it's actually the end of rate hikes that we tend to see the 12 months after, strong performance," Hooper continued. CNBC Pro reviewed FactSet data to see how the major indexes fared 12 months after the final rate hike in prior cycles. The verdict: Broadly positive. In fact, as Hooper observed, the S & P 500 saw double-digit returns following the last increase in five out of the last six rate-hiking cycles. The only exception was the period after the dot.com collapse in 2000-2001. Take 2018, for instance. The S & P 500 dropped by more than 6% that calendar year, but following the last rate increase in December, the broader index rebounded by more than 30% in the 12 months that followed. The Nasdaq soared almost 37%. Rate cuts in 2019, as well as a boom in tech stocks, bolstered both indexes. The Dow Jones Industrial Average and Russell 2000 lagged, but both still returned 24% and 26%, respectively. After the final rate hike in June 2006, the S & P 500 gained 18% in the following 12 months, in the runup to the Global Financial Crisis. The Nasdaq and the Dow each climbed more than 19% in the coming year. The Russell 2000 was higher by more than 16%. The only instance in the past 40 years when the major indexes suffered one year after the conclusion of a rate hiking cycle was in 2000, as investors dealt with the collapse of the dot.com tech bubble. The S & P 500 lost 12%, while the Nasdaq Composite plunged 41%. The Dow alone came out in positive territory 12 months out. Still, on average across the six historical episodes, the S & P 500 was higher by 16% one year after a final rate hike, while the Nasdaq had risen by 13%. The Dow and the Russell 2000 are up by 18% and 14%, respectively. To be sure, Invesco's Hooper does not expect the economy will emerge wholly unscathed from the current higher interest rates. However, she warned against conflating the economic and market outlooks for 2024. The economy, for example, is in better shape that it was at the conclusion of prior rate hiking cycles. "I am bullish, because we have to disconnect markets from the economy," Hooper said. "Markets are already starting to look out, in my opinion, to an economic recovery that will unfold in the second half of 2024."