Investors are bracing for a year with a lot of change on the docket. One thing potentially making markets more interesting are the trillions of dollars that could get reallocated from short-term investments to other parts of the markets.
In the wake of the Federal Reserve’s interest rate hikes, investors embraced short-term investments, including money-market funds to park their money, taking advantage of relatively easy accessibility and high interest rates pushing up returns.
But as inflation continues to moderate, the Fed has signaled rate cuts may be coming this year, and with it potentially lower returns for previously attractive investments.
Nearly $9 trillion were sitting in money market funds and certificates of deposit as of Q3 2023. But at least some of that money could be headed for a new home this year as the interest rate environment changes.
Even though rate cuts are not set in stone, the Fed is currently projecting the federal funds rate to fall to 2.9% by the end of 2026, compared to its current range of 5.25%-5.5%.
Of course investors will still have reason to put their money in short-term investing instruments if interest rates are lower, and different investors have different needs. But even if only a portion of the multi trillion dollar pile would get reallocated it would still be a big deal.
State of Stocks
On the flip side, the stock market is hovering near all-time highs, leaving investors wondering if it can continue to go up. Markets have also largely priced in the ideal scenario of a soft landing, in which inflation moderates on the back of tight Fed policy but the labor market and broader economy remain strong.
At the same time, stocks have historically provided the greatest long-term returns for investors, and the prospect of lower returns on cash and cash-like investments may provide a compelling reason to pivot.
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