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The resounding US election victory for Donald Trump on November 5, 2024, was another signal for a market rally amid widespread optimism for the President-elect’s pro-growth policies geared towards deregulation. 

But Trump will be inheriting a more challenging economic environment in 2025, and sticky inflation figures could be a cause for concern as the incoming administration sets out its plans to grow the economy. 

In what may be a telling statement, Federal Reserve officials have announced that they now expect to cut rates by just half a point in 2025, indicating that two interest rate cuts will occur throughout the year. 

The move would bring the target federal funds rate down to a range of 3.75% to 4%, but what does this ongoing tussle with interest mean for Wall Street for the year ahead? 

Measuring The Impact of Rate Cuts

The impact of interest rate cuts is generally a signal for stock market growth. The logic behind this trend is clear. The Fed lowers rates, making borrowing cheaper for businesses and consumers, helping to boost growth and spending power respectively. 

History supports this thesis. Since 1980, five of the 10 best years for the S&P 500 occurred during cutting cycles when outside of a recession. In all, the Federal Reserve has cut rates 12 times when the S&P 500 was within 1% of its all-time high, and the market has climbed higher one year later in all 12 cases posting a median return of 15%. 

However, 2025’s macroeconomic environment is far from conventional with the post-pandemic recovery, geopolitics, and the recent tech stock boom period all impacting the S&P 500’s relationship with interest rates. 

According to US Bank findings, equity investors have shown a greater focus on factors like the economy and corporate earnings to shape their decisions on Wall Street, with interest rates carrying a weaker influence on the broader market. 

Kristina Hooper, Invesco’s chief global market strategist, also played down the impact of interest rate cuts in 2025, citing the long-term impact of the Fed’s easing cycle in 1995 and 1996 which saw a cut of 75 basis points. 

Following an initial S&P 500 rally of 11.32% over the six months following the first rate cuts, the index posted a more tepid gain of 6.6% over the subsequent six months. Hooper concludes her findings by stating that 75 basis point rate cuts offer limited fuel for risk assets to grow. 

Given that the Federal Reserve managed a full percentage point in cuts in the second half of 2024, the prospect of more in 2025 could see an uptick in risk appetite among investors over the year ahead, but is there a risk of there being no rate cuts at all? 

Could Interest Bite Wall Street in 2025? 

There are many confounding factors impacting the performance of the S&P 500 even during its blistering recent performance. 

One interest-related issue that could hurt Wall Street in 2025 is the specter of reality setting in for many S&P 500 firms that have been insulated from the Fed’s 2022 and 2023 interest rate hikes to their highest levels in 22 years.  

With firms mindful of the low-rate borrowing environment during the pandemic years, many companies opted to lock in their rates in 2020 and 2021, with many up for renewal in 2025. 

Despite the S&P 500 responding positively to rate cuts, this factor could leave a more muted level of performance as firms face higher borrowing rates. 

There’s also a tangible risk that Donald Trump’s return to office and his pro-growth, tariff-focused policies could lead to higher inflation and a return of interest rate hikes. 

With the Federal Reserve already revising their rate cut expectations from four to two for 2025, Trump’s election victory has raised the prospect of a ‘no landing’ scenario for the US economy where growth continues, inflation returns, and the Fed has little room for further rate cuts. 

The Peterson Institute for International Economics predicted that Trump’s inflationary policies such as tariffs, mass deportations, and deregulation efforts could push inflation to between 6% and 9.3% in 2026. These levels would prompt retaliatory rate hikes from the Fed in a bid to soothe the soaring cost of living. 

Navigating Uncertainty

The economic outlook for 2025 remains clouded for the S&P 500. The unpredictability of Trump’s second term means that all bets are off for the number of rate cuts we’re set to experience over the year ahead. 

Although the S&P 500 has shown resilience in an unconventional economic environment in recent years, leading market players will be pinning hopes on lower rates to support borrowing as loan renewals loom in the coming months. 

While investors have been less concerned about the prospect of interest rate cuts influencing the S&P 500, they’re likely to form a crucial component of the overall economic health of the United States in 2025. 

The path that interest rates will take, along with the US economy as a whole, lies with Donald Trump, and the President-elect’s ability to bring further prosperity to Wall Street after a groundbreaking 2024. 

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