Chart Of The Week   January 10 2022

The Difference Between Tightening And Tight


BCA Research’s US Investment Strategy service concludes that it is too soon to turn defensive in multi-asset portfolios.

The team decomposed the monetary policy cycle into four phases based on whether the FOMC is hiking or cutting rates and the position of the fed funds rate relative to their estimate of its equilibrium level. They deem policy to be accommodative when the funds rate is below equilibrium and restrictive when it is above equilibrium.

  • Phase I: easy, tightening
  • Phase II: tight, tightening
  • Phase III: tight, easing
  • Phase IV: easy, easing


They find that the level, not the direction, of the fed funds rate has driven US equity performance over the 60-year period covered by their equilibrium estimate. The S&P 500 has eked out a 0.4% nominal annualized return across the aggregate 19 years that policy has been tight, by their reckoning, while advancing 10.6% annually over the accumulated 41 years when it has been easy. Easy policy’s ten-percentage-point advantage over tight policy leaves cutting rates’ four-point edge over hiking rates in the dust.

The easy/tight disparity widens to eleven-and-a-half percentage points when nominal returns are adjusted for inflation. In Phases I and IV, when the fed funds rate is below their estimate of equilibrium, the S&P 500 has generated robust 7.1% real annualized returns while shedding 4.4% in Phases II and III, when the funds rate exceeds their equilibrium estimate. Stocks do better on a real basis when the Fed is cutting rates, just as they do on a nominal basis, but the spread is narrower. The level of rates is the key dividing line, not their direction.