In the few months since March 16, when the Federal Reserve (Fed) finally started hiking policy rates in response to spectacularly high inflation, U.S. equities have tumbled. Since Fed liftoff, the S&P 500 has fallen 13%, bringing the total decline since the market’s peak in early January to over 21%—almost erasing all last year’s gains.
Such a negative immediate market response to Fed tightening is unusual. During the previous six Fed hiking cycles (dating back to the late 1980s)1, the S&P 500 had, on average, delivered a 15.6% positive return during the initial 12 months after the first hike. For investors, the first step in deciding whether the most recent equity drawdown is complete is to unravel why the equity market response has been so much worse than previous Fed tightening cycles.