Has The Market Already Front Run Sept. 18 Rate Cuts, And If Not, What's Worth Buying Now?

Jobs numbers have been lackluster and constantly revised downward. Unemployment is holding steady at around 4.2% but up since March. Sept. 18 is Fed day, and the market is already pricing in a 25-basis points rate cut, maybe even 50 points. That means the most important thing about that decision next week will be what Fed Chairman Jerome Powell ultimately says about it afterwards.

“I think strong overall economic indicators, falling inflation, and a shift from defensive assets into equities have driven stocks higher so you have to wonder what additional benefits could a rate cut provide now,” said Naeem Aslam, an external consultant for AvaTrade in London.

“The most immediate impact would be on highly leveraged companies that would benefit from reduced interest expenses and improved refinancing conditions, but growth stocks, particularly in sectors like tech, could easily see continued momentum in their favor,” he said.

The Nasdaq is up around 20.6% over the last 12 months ending Sept. 10. Investors in the Invesco Nasdaq ETF QQQ have beaten the index, up 23% in 12 months.

The Nasdaq 100 Index is likely to move towards the 20,000 price level if markets like what Powell has to say next week. However, if his talk suggests a recession is possible in the months ahead, Nasdaq could fall to 16,900.

For now, “It’s hard to be bearish,” said Vladimir Signorelli, president of Bretton Woods Research, a macro investment research firm in Long Valley, NJ. 

The Fed’s campaign of contraction that began in early 2022 is beginning to bear fruit. Non-farm payrolls are consistently being revised lower.

“We have had 340 thousand jobs revised downward this year alone. That’s huge. How do you miss that? Job market weakness is accelerating and so on Sept 18 we will see a rate cut, and maybe even a 50 basis points rate cut,” Signorelli said. “My hunch is that if Powell wants 50 basis points, he can persuade Christopher Waller (Federal Reserve Board of Governors) to go up from 25.”

Waller has already said he was willing to “front-load rate cuts” if needed in case of economic contraction. 

The Fed is being blown out of the water by these lagging indicators, or coming in at the lower quartile of their estimates. They’ve been outside the median in their calls because the slowdown has accelerated.

The latest Bureau of Labor Statistics data showed 25,000 manufacturing jobs were lost in August alone with “little net change over the year.”

The Federal funds rate is 5%, with an upper limit of 5.5%. 

One part of the market that is focused on guessing interest rate moves has already made their play. They are long equities and have been since mid-summer. But there is more to next week’s rate cut than the cut itself.

“We are going to be evaluating how Powell characterizes this reduction in rates, the first one since 2020,” Signorelli said.

Interest rate cuts will have multiplier effects. Powell’s suggestion easing was enough to trim around 140 basis points from the 30-year Treasury bond this year. A single rate cut of around 25 bips could easily take the 10-year from 3.7% yield today to around 3.3% later next week, said Signorelli. Where will that money go? Probably equities. But that will depend on whether the market is worried about a recession.

“Heading into the end of the year, U.S. stocks will probably continue to beat European stocks thanks to stronger economic fundamentals and stronger consumer base,” said Aslam. “If the Federal Reserve is nearing the end of its rate-hiking cycle, I’d buy growth sectors like tech because they may continue to see portfolio money coming in,” he said.

Valuations are still relatively high, however. Investors are paying more for those equities that they are for stocks on the S&P 500. QQQ is trading at 31x, compared to the SPDR S&P 500 SPY trading at 21x. Amazon AMZN has a price to earnings ratio of 41x. Delta Airlines DAL is around 7x PE, despite the increase in airline travel, according to a July JP Morgan report.

Higher valuations could limit upside potential for those stocks even with lower interest rates, said Aslam. See Intel INTC for instance, with a PE of over 79 times earnings. “Stay away from those, especially if earnings growth slows or macroeconomic data suggests a recession is coming.”

Five Nasdaq Stocks With A PE Under 20

Believe it or not, some of these stocks on the Nasdaq are priced below the average index PE. If Intel and Broadcom AVGO look expensive, here are five companies with current P/E ratios under 20.

Applied Materials AMAT: 19.96x

Cisco Systems CSCO: 19.17x

Cognizant CTSH: 17.34x

First Solar FSLR: 18.26x

Sirius XM Holdings SIRI: 8.41x

“Buying 100x PE stocks in the Nasdaq is a high-risk, high-reward strategy,” said Aslam. “Lower rates could push valuations even higher quickly, but magnifies the risk if growth expectations aren't met.”

The current environment suggests caution for buying the high value names.

“Investors that are comfortable with volatility and are willing to bet on sustained low interest rates and strong growth may see some upside, but the downside risk of overpaying is significant if market conditions change or if these high priced companies fail to deliver,” Aslam said.

This article is from an unpaid external contributor. It does not represent Benzinga's reporting and has not been edited for content or accuracy.