The Federal Reserve’s rate cut this week comes during atypical economic conditions, UBS strategists pointed out, and so investors may not have a playbook for how to react.
In short, history suggests it should be good for gold, tech, some banking stocks, bad for the dollar, which is good for emerging markets.
This month's meeting saw the year's first Fed interest rate cut, but does not signal an impending recession, as cuts often have in the past.
"56% of the time when the Fed has cut rates, we have had a recession,” noted UBS strategist Andrew Garthwaite. "However, we don’t see the classic preconditions for a recession."
He argued that the current environment is atypical, with the only similar historical case being June 2002..
"If the Fed cuts and there is no recession, then 12 months later markets have risen 17% historically, on average," he said, citing data from previous easing cycles.
He sees the present conditions as most similar to September 1998.
In equity markets, tech and software are expected to outperform. “Tech typically outperforms 75% of the time in the 12 months after the first rate cut (if there is no recession),” he said.
"If there is a bubble, we think it could be in Gen AI (our preferred stocks are Meta Platforms, Microsoft, Amazon and TSMC), electrification (Eaton Corp, Schneider) and gold."
The UBS strategist also expects the dollar to weaken, as this happens 80% of the time in the month after the first rate cut, and 60% of the time over the next year.
He sees plays on a weaker dollar in domestic European sectors and US capital goods and software.
UBS continues to back gold. “Gold has actually risen on all occasions in the 1, 3, 6 and 12 months after the Fed restarts a cutting cycle,” Garthwaite said, adding that a 10% drop in the dollar could lift gold by 9%.
Emerging markets are seen as key beneficiaries, outperforming 75% of the time in the 12 months after the Fed starts or restarts cutting and there is no recession.
UBS favours Brazil, China, and indirect EM plays such as Reckitt Benckiser Group, Ashmore Group and Coca-Cola.
Other preferred sectors include European telecoms, UK food retail (think Tesco PLC), flavouring companies (think Tate & Lyle), and US healthcare equipment.
UBS maintains a long-standing overweight on banks, especially in Europe, citing low valuations and potential re-rating.
Small caps, though more sensitive to rates, may struggle. “The problem this time is that small caps are underweight tech… and they are overbought,” the note said.
UBS maintains its MSCI AC World target of 1,020 by end-2026, assigning a 35% probability to a bubble scenario emerging next year.