A Cold Turkey Credit Detox

By Michael Salvatore, Editor, TradeSmith Daily

If you're jonesing for a rate cut and think Fed Chair Jerome Powell will come through for you today… It's time for a wake-up call.

You've hit rock bottom, my dear cheap-credit-addicted reader. Odds are strong — 98%, according to FedWatch — we'll see no rate cut today.

And even if we did, you'd wind up wishing otherwise.

Listen, I get why investors, prospective homeowners, and underwater banks across the United States are foaming at the mouth for interest rate cuts.

They'll be able to borrow more cheaply to invest in private or public businesses… Buy a house… Or save themselves from former bad decisions — like locking in long-term Treasuries at negative real yields… or buying commercial real estate that's up for refinancing this year.

Still… I hope we don't get a rate cut anytime soon.

In fact, I think we should all learn to not just live with, but LOVE interest rates at 23-year highs.

The fact that rates are still so high is a huge signal of health in the United States economy. It's giving savers the first chance to earn a risk-free real yield on their money in decades. And most importantly, it's helping wash out inefficient bad actors from the system… paving the way for quality stocks to surge higher and higher.

Higher rates are a nasty but needed detox for excesses in the system. The initial shock, with rates rising at the fastest pace in decades, was no fun…

But it's over now. And we can continue on the right foot.

I'll prove why today. And I'll share a few high-quality tickers you can buy to profit in a high-rate regime.

But first, let's talk about the main reason we're all here…

Cutting Rates is No Guaranteed Bull Signal

Rate-cut hopefuls, especially if they're invested in stocks, should be careful what they wish for.

Check out the table below, originally compiled by LPL Financial with data from FactSet, and recreated here:

Final Fed Rate Hike	First Fed Rate Cut	Return Between Period	Six Months From Rate Cut	One Year From Rate Cut	Number of Days Between Final Hike and Cut
5/1/1974	7/1/1974	-6.70%	-18.40%	10.70%	61
3/3/1980	4/1/1980	-9.20%	23.80%	33.70%	29
5/8/1981	6/1/1981	0.60%	-4.80%	-15.70%	24
8/21/1984	10/2/1984	-2.50%	10.40%	12.50%	42
2/24/1989	6/5/1989	12.20%	8.60%	13.90%	101
2/1/1995	7/6/1995	17.80%	11.30%	18.70%	155
5/16/2000	1/3/2001	-8.10%	-8.40%	-13.50%	232
6/29/2006	9/18/2007	19.40%	-12.40%	-20.60%	446
12/19/2018	8/1/2019	17.80%	9.20%	10.80%	225
	Average	4.60%	2.10%	5.60%	146
	Median	0.60%	8.60%	10.80%	101
	% Positive	44%	56%	67%

The main takeaway of this table is the row highlighted in yellow.

First of all, the average performance between final rate hike and first rate cut is 4.6% over 146 calendar days. Annualized, that's a gain of 11.5% — well above the stock market's long-term average of about 9%. So, stocks perform better than average when rates are high, not low.

Just as important, the average forward returns six months (2.1%) and 12 months (5.6%) after a Fed rate cut are both below long-term stock market averages.

That alone should tell you everything: rate cuts historically weigh on stock prices, not buff them. And high rates are a boon for higher prices.

I ask you: why should we hope for rate cuts right now? All the evidence points to higher rates being great for stock prices.

Beyond that, the large portion of Americans that DON'T invest in stocks directly (45% of them) are able to reap the benefits from positive returns on their savings.

For active investors, it's easy to forget about that segment of the population. But the plain fact is, higher rates make a huge positive change in consumers' month-to-month financial picture.

And the healthier consumer finances are… the more they participate in the economy, spending and earning… and the more they save — whether for big purchases or just for security — the better things are for everything in the long run.

An economy that's addicted to cheap credit is bound to spawn poor uses of it. It's just asking for bad actors to come in and invent new methods of grift. (Remember that whole NFT thing? Yeah… that was 100% about cheap credit and an excess of capital in the system. GameStop? Dogecoin? Same deal.)

The Fed will cut rates eventually.

We should only hope that when it does, it's because the economy is performing so well that it GETS to. Not because we're suddenly in a crisis and it HAS to.

So, say you're an investor who's fresh out of cheap-credit rehab, beaming into the morning sun, and want to make some smart moves for a high-rate world.

Here's a few to consider.

High-Rate Moves to Make Now

While not all Americans are investors, as we've established, all Americans have finances to manage.

We don't often get into "personal finance" territory in TradeSmith Daily, but it never hurts for a quick refresher.

If you haven't already checked in on your personal financial life recently, here's two quick, smart moves to make now.

Eliminate debt. One negative we can't deny about higher rates is higher credit card costs. The chart below shows that interest rates on credit cards have surged almost 44% higher since May of 2020.

Suffice to say, if you're carrying high-interest debt, do whatever you can do pay it off ASAP. That's BEFORE you invest or save anything more than a "I lost my job and my roof collapsed" fund. No investment in the world can outperform the costs of carrying high-interest rate debts. Or, at least, no investment can guarantee that.
Buy some dang T-Bills. One-month Treasury Bills are yielding 5.3% as I write. That is where your emergency fund and other savings should live, period. Stagger out your purchases so you're getting the yield every week, and continually reinvest the principal.

If you've never bought Treasuries before, you can learn more and get started at TreasuryDirect.gov. Or, as I've shared before, stick some money into the iShares 0-3 Month Treasury Bond ETF (SGOV) and call it a day.

You can even lock in a 5.2% yield on 6-month T-Bills, should you wish. We more than likely won't see that same yield by the time they mature.

Only once you and/or a loved one have taken care of these things should you start investing.

And on that note, I have two additional recommendations for you — for now and for later.

For now, before rate cuts happen, buy REITs and especially financial stocks.

Financial stocks are one of the top beneficiaries of higher interest rates. Not only can they charge higher interest on credit (see above), but they earn more on the bank balances that they take in… while simultaneously attracting more balances by offering high interest savings accounts.

Banks… credit issuers… and brokerages are all good picks here. Of these, I'll shout out JPMorgan Chase (JPM), Mastercard (MA), and Interactive Brokers Group (IBKR). All of them hold a Strong Bullish Rating and are high-quality businesses. And the last of which is a strong competitor in the brokerage field. (Disclaimer: I own shares of JPM and MA.)

And REITs, while related to real estate, benefit more from lower interest rates by being a more attractive yield investment. The sector is down over the past month, so buying now means locking in great yields before shares potentially recover.
For later, when rate cuts happen, buy housing stocks.

As rates fall, housing stocks accrue a lot of value, quickly.

That's because lower rates attract new home buyers into the market, directly benefiting homebuilders with a surge of demand. Homebuilders bringing new supply to the market attract investment in that environment.

Toll Brothers (TOL) and KB Homes (KBH) are both high-quality businesses with a Bullish and Strong Bullish Rating, respectively.

Further, strong high-quality retailers that service homeowners — like Home Depot (HD) and Lowe's (LOWE) — are must-own stocks in a world where more people own houses, for obvious reasons. It doesn't hurt that both of these stocks earn a Strong Bullish Rating, either. (Disclaimer: I own shares of HD.)

The rate environment we're in right now is unusual, but from where I stand, totally welcome.

Don't even bother tuning in to Jerome Powell's press conference today.

Instead, spend that precious time researching quality financials and homebuilding stocks, along with REITs.

Your portfolio will thank you for it.

To your health and wealth,

Michael Salvatore
Editor, TradeSmith Daily

P.S. Speaking of good money moves… check out TradeSmith Investment Report.

It's a monthly newsletter designed to help you beat the market with a curated portfolio of only the best of the best stocks.

These are the stocks major Wall Street institutions are buying right now… and will continue buying whether rates stay high or fall.

But, according to expert analyst and my good friend Jason Bodner, you have to act before March 20. Learn why here.

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Wednesday, January 31, 2024