There’s a well-known investing rule called “don’t fight the Fed” that started in the 1970s. This rule means that the Federal Reserve’s decisions about interest rates can greatly impact markets and the economy. So investors should pay attention to what the Fed does. However, it’s important to look at the big picture of where interest rates are heading, not just focus on each individual Fed decision. This matters now as the Fed keeps lowering rates while the economy sends mixed signals.
As most people expected, the Fed lowered policy rates by 0.25% at its September meeting. This continues the pattern of rate cuts that started in 2024. This happened while stock markets are near record highs, economic data is mixed, and there’s still uncertainty about tariffs and inflation. Unlike emergency rate cuts during the 2008 financial crisis or 2020 pandemic, today’s cut is the Fed trying to fine-tune policy to keep growth going, not responding to a crisis.
For long-term investors, it’s helpful to understand why the Fed is cutting rates and how today’s situation is different from past cycles. This knowledge can help with financial planning and investment decisions. While rate cuts usually help financial markets, the key is keeping perspective and staying focused on long-term financial goals instead of overreacting to each policy change.
Understanding “why” the Fed cuts rates is more important than “when” or “how much”
When making policy decisions, Fed officials look at economic data like growth, jobs, and inflation to form their outlook. When the outlook is unclear, it’s normal for Fed officials and other economists to disagree, leading to different views on future rate cuts. This is happening now with wide differences among officials’ rate forecasts. While many news stories focus on political battles between the Fed and the White House, the truth is there has been disagreement all along.
Despite this disagreement, it’s important to remember a few key facts. First, the Fed had been planning to cut rates for quite some time. Each of their recently published economic projections showed that rate cuts would likely start this year, even though the number and size have changed based on tariff news and market movements. The Fed’s latest projections show there could be two more cuts this year, with an improved growth outlook.
Second, this latest rate cut is fundamentally different from past cutting cycles that were mostly driven by emergencies. Today’s rate cuts continue to reverse the rapid rate increases that started in 2022 to fight inflation. They also happen during a slowing but still positive economic backdrop, even though job data might be weakening and inflation is more stubborn than expected. In other words, the Fed cutting rates by one-quarter of one percent to help guide the economy is different from large emergency cuts due to financial system problems or economic crisis.
Third, Fed Chair Jerome Powell’s term will most likely end in May 2026. The next Fed leader will be appointed by President Trump, which means the federal funds rate (the rate the Fed controls) will likely be lower. While this could mean short-term interest rates will likely trend lower too, it’s important to remember that long-term interest rates are driven by market and economic forces, not Fed policy. For example, if lower short-term rates caused inflation to rise, this might unintentionally lead to higher long-term rates.
So while this rate cut shows the Fed continuing its path from 2024 rather than a complete change in direction, it also signals the Fed’s commitment to supporting economic growth.
Recent economic data shows mixed signals
A main reason for the Fed’s decision was weakness in the job market. The economy added only 22,000 jobs in August, well below what experts expected, and previous months’ numbers were revised down significantly. However, the unemployment rate only rose slightly to 4.3% because fewer workers were looking for jobs. Again, this is different from past emergency rate cut periods. During the 2008 financial crisis, unemployment jumped from 5.0% to 10.0%, and in 2020, it shot up from 3.5% to 14.8%. Today, the job numbers suggest a more gradual cooling that may reflect a softening of job market conditions.
Adding to concerns about job market weakening, recent payroll revisions have painted a more subdued picture of recent job growth than previous data showed. The Bureau of Labor Statistics’ annual revision process showed 911,000 fewer new jobs were created from March 2024 to March 2025. This suggests the job market was cooling faster than policymakers realized when making earlier monetary policy decisions. These are preliminary estimates that will be finalized in early 2026.
While a weakening job market would support lowering interest rates, the Fed’s concerns about inflation support keeping rates steady, or even raising them if tariffs drive prices higher. The Fed’s preferred inflation measure, called the Personal Consumption Expenditures (PCE) Price Index, is at 2.6%, which remains well above the 2% target. Core PCE (which excludes food and energy) is hovering at 2.9%, while headline and core CPI (Consumer Price Index) have remained sticky at 2.9% and 3.1%, respectively. Earlier progress on bringing down inflation has not only slowed, but some trends have reversed in recent months.
The Fed’s job is to balance these factors as part of its “dual mandate” (focusing on both employment and price stability). The mixed signals these indicators are sending explain why there is disagreement both within the Fed and with the White House. For investors, understanding these trends will likely be more helpful in understanding the economic and interest rate environment than watching day-to-day political headlines.
Rate cuts generally help businesses and investors
For investors, the key distinction is whether rate cuts happen alongside a recession or support continued growth. While there are some signs of economic weakness, there are not yet signs of a recession. In these situations, rate cuts typically provide broad benefits across financial markets. Lower borrowing costs make it cheaper for companies to finance growth and reduce debt payments. Consumer spending can increase if mortgage and credit card rates decline, boosting demand for goods and services.
One concern with rate cuts today is that the stock market is already near all-time highs. While this is not typical, there have been historical cases when this occurred. For example, under Alan Greenspan, the Fed cut rates three times in 1995 and 1996, calling the cuts “insurance” against economic slowdown. The Fed also made cuts in 2019 at market highs to address global growth concerns. At the latest press conference, Powell described this most recent policy decision as “a risk management cut” due to the Fed’s view that “downside risks to employment have risen.”
For investment portfolios, history shows that the effects of rate cuts are generally positive across different types of investments. While the past doesn’t guarantee future results, stocks typically benefit as lower rates reduce the discount rate for future earnings and improve corporate profitability, especially among growth-oriented businesses. Meanwhile, bonds typically become more valuable due to their higher rates, although this can vary across bond types and time periods. In contrast, cash will likely experience lower yields, making it even less attractive compared to investments like stocks and bonds.
While each economic cycle is unique, navigating policy changes is a normal part of investing. Importantly, rate cuts are generally supportive for long-term investors, although balancing risk and reward requires a broad understanding of market trends.
The bottom line? The Fed’s latest rate cut may support the economy amid mixed signals. Investors should maintain a long-term perspective, focusing on the overall market direction rather than individual Fed decisions.
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