The Stock Market Would Be Unthrilled With a ‘Hawkish’ Cut

Wall Street is still waiting for its traditional December rally to take flight. Could the Fed could provide liftoff? (Michael M. Santiago/Getty Images)

Key Points

• Investors are paring bets on multiple Federal Reserve rate cuts in early 2026, expecting only one cut for the entire year.
• Benchmark 10-year Treasury note yields have risen over 20 basis points this month, reaching 4.206%, the highest since early September.
• AntonGlobal government bond yields have reached 16-year highs due to reassessments of monetary policy and hawkish central bank commentary.

Bond investors have been making big bets on the direction of interest rates next year based on stubborn inflation pressures, soaring levels of government debt, and attacks on Federal Reserve independence that are rippling through major markets around the world.

The adjustment has stoked a big move in Treasury bond yields, and, in turn, has held down gains for U.S. stocks heading into the Fed’s rate decision Wednesday and possibly over the final trading weeks of the year.

Investors have been expecting a quarter-point rate cut from the Fed, which would lower its key lending rate to between 3.5% and 3.75%, but are paring bets on similar reductions over the first half of next year.

A divided Fed, which also will be under new leadership next year when Chairman Jerome Powell departs in May, is expected to signal just one rate cut over the whole of 2026, while also lifting near-term projections for growth and inflation.

“We expect this to be a “hawkish cut,’” said Chris Brigati, chief investment officer at San Antonio-based investment firm SWBC.

“The economic data in recent months, while infrequent and on an extreme lag given the disruptions for the government shutdown, suggest that the labor market is cooling, but not as much as feared, and that inflation is still above the Fed’s target,” he added. “While this warrants another rate cut, it may not warrant many in 2026.”

That assessment, which is firming in markets around the world, has pushed benchmark 10-year Treasury note yields more than 20 basis points since the start of the month. The paper was last changing hands at 4.206%, the highest since early September.

Headline inflation pressures were last pegged at 2.8%, but the data only covered September, owing to the U.S. government shutdown.

LPL Financial’s chief technical strategist, Adam Turnquist, noted that “rising commodity prices and the unknown impact of tariffs represent additional factors that could complicate inflation forecasts” into 2026.

A near-certain rate hike next week from the Bank of Japan, as well as hawkish rates commentary from central bank officials in Europe, also has also helped lift a gauge of global government bond yields to the highest levels in 16 years, according to data from Bloomberg.

“Although rises in long-dated bond yields this year have occasionally been chalked up to fiscal concerns, the latest selloff seems driven in large part by a reassessment of monetary policy,” said James Reilly, senior markets economist at Capital Economics.

Stocks may find it challenging to pierce through higher longer-term bond rates heading into 2026 especially given that U.S. equities already trade at expensive valuations and broader indexes are largely led by rate-sensitive tech companies.

The S&P 500 , in fact, has risen only 0.4% since the bond market began selling off in late November, and has gained just 0.2% over the past month.

Louis Navellier of Navellier Calculated Investing thinks the stock market’s next move depends heavily on how the Fed will characterize its interest rate policy.

“Investors will be much better off if the challenge to lower rates is sticky inflation rather than weak employment,” he said. “Higher prices can translate into higher profits, while higher unemployment can lead to a recession.”

“If the right things are said, a strong year-end rally is still in the cards,” he added.

Write to Martin Baccardax at martin.baccardax@barrons.com