The U.S. Federal Reserve is set to increase interest rates throughout 2018 and this is going to support equity markets, according to J.P. Morgan Asset Management's latest quarterly markets outlook.
The central bank announced in March an increase in rates and hinted that the path of rate hikes could become more aggressive. Markets are mostly pricing in two more rate rises this year, although some analysts foresee three more increases by the end of 2018.
Higher interest rates are traditionally seen as a negative for stock markets. This is because higher rates mean that companies will have higher borrowing costs and, thus, less room to pay dividends to investors. However, according to J.P. Morgan Asset Management, the path of rate increases will be "very slow and gradual" and is "unlikely to significantly restrain corporate earnings or equity returns."
"Interest rates aren't anticipated to pose a problem for the economy or equity markets this year," Mike Bell, global market strategist at J.P. Morgan Asset Management, said in the quarterly report out Tuesday. "Instead, financial stocks should benefit." This is because higher interest rates allow banks to charge higher fees and, thus, boost their performance.
The report said that equities have only come under pressure when the two-year Treasury yield rose above 3.5 percent. It currently sits at 2.4 percent.
The outlook warned, however, that it is important to keep an eye on the yield curve — which tracks the movement of both the 10-year and the two-year treasury yield. Prior to some of the past recessions, the two-year Treasury yield rose above the 10-year yield, although at the moment, the former is still below the 10-year note, but has recently moved closer to it.