Why Negative Real Rates Aren’t the Crisis the Headlines Suggest

• April headline CPI growth jumped to 3.8%.

• That drove the real rate of interest to -0.2%.

• The S&P 500 Index tends to rally after real rates turn negative.

Inflation growth grabbed the headlines, but the data is telling a far calmer story…

The latest inflation numbers from April just landed, and they immediately caught the eye of every trader on Wall Street. According to the U.S. Bureau of Labor Statistics, annualized inflation jumped to 3.8%. This was a notable increase from the 3.3% gain in March and the 2.4% gain in February…

However, the real story lies in how that number interacts with the effective federal funds rate, which currently sits at 3.6%. When inflation is higher than the interest rate set by the Federal Reserve, we encounter a situation where the “real” rate of interest becomes negative. In other words, borrowing costs could be low enough that they’re stoking inflation growth instead of weighing on it. That can imply that rates need to go higher.

This marks the first time we have seen negative real rates since the early months of 2023. Back then, the Federal Reserve was still aggressively raising rates to stop inflation from spiraling out of control. As you might expect, the financial news media reacted with a sense of urgency. The Wall Street Journal and Bloomberg warned that investors were becoming anxious about rising inflation pressures. Headlines focused on stocks retreating as traders tried to make sense of the surprise. It is the exact kind of news cycle that can cause a person to make emotional decisions.

The primary driver of the inflation jump in April was the price of oil. Ongoing tensions in the Middle East pushed crude oil prices higher, stoking headline CPI. If the U.S. and Iran can resolve their differences, the price of oil could fall just as quickly as it rose. A drop in energy costs would naturally cool inflation and push real interest rates back into positive territory.

More importantly, the headlines often miss the broader historical context. This is not a new or rare event. Since the year 2000, real interest rates have dipped into negative territory eight other times. While the news makes it sound like a crisis, history shows us that the S&P 500 Index often performs quite well during these stretches.

But don’t take my word for it, let’s look at what the data’s telling us....

The real interest rate is a measure by which our central bank can monitor whether the federal funds rate is weighing on or supporting inflation growth. A positive number implies policy is restrictive, while a negative number suggests policy may be too easy.

We can calculate the number by subtracting annualized inflation growth from the effective federal funds rate. In February, when inflation was at 2.4% and the effective federal funds rate stood at 3.6%, the real rate was 1.2%. That meant our central bank had roughly 120 basis points worth of rate‑cut room before it hit neutral. But now, with the April inflation result having jumped, the real rate has dropped to -0.2%, squeezing our central bank’s policy cushion...

The Federal Reserve is well aware of this dynamic. Negative real interest rates are sometimes used by the Fed as a deliberate policy tool. They boost the economy by making it cheaper and more attractive to borrow, spurring home purchases, car sales, and business investment. This “easy money” environment can act as fuel for the economy rather than a brake.

So, I decided to dig into the historical data starting from January 2000. Including this latest move in April, real rates have turned negative nine times in the last quarter century. These periods are rarely just a “flash in the pan.” The average stretch of negative rates lasted about 21 months, while the median duration was 11 months.

The longest period occurred from late 2009 through 2014. During those 63 months, the Federal Reserve kept interest rates near zero to help the country recover from the Great Recession. Even though many people were worried about inflation during those years, the economy slowly rebuilt itself, and the stock market began one of the longest bull runs in history.

Next, I looked at what happens to the S&P 500 when rates go negative. I analyzed the returns for the 12 months following every time the real rate turned negative. The results might surprise you…

When we extend the timeline to 24 months, the numbers become even more compelling…

The pattern here is clear. Negative real rates might sound like a bad omen. However, the data tells a much more optimistic story. Since the turn of the century, seven out of eight negative‑rate periods were followed by higher stock prices a year later. If you held your investments for two years, your gains were typically more substantial.

The headlines regarding peace negotiations between the U.S. and Iran are all over the map. One day they’re great and the next day they’re horrible. But at least the two sides are talking, leaving the door open for diplomacy to succeed. In the interim, the situation has caused oil prices to spike, driving inflation growth up. But as I mentioned at the top, if the situation turns, prices could cool just as quickly.

In times like these, the best strategy is usually the simplest one: keep your eyes on the long‑term data and ignore the short‑term noise. At their core, negative real rates are a sign of “easy” money. They signal a world of cheaper borrowing and continued spending by consumers. And history tells us they support a steady rally in the S&P 500.

Five Stories Moving the Market:

Anthropic is in early talks with investors to raise at least $30 billion in fresh financing, setting the stage for a valuation of more than $900 billion – Bloomberg. (Why you should care – Anthropic, which is expected to go public as soon as October, last raised funding in March at a valuation of $850 billion)

Senior U.S. and Chinese officials agree that no country can be allowed to exact shipping tolls in the Strait of Hormuz, according to the State Department; the statement is a sign that ‌the two countries are trying to find common ground on efforts to pressure Iran to give up control of the vital waterway – Reuters. (Why you should care – the White House is likely trying to go through the government in Beijing to end the Iran conflict)

The U.S. military is considering officially renaming the war with Iran “Operation Sledgehammer” if the current ceasefire collapses and President Donald Trump decides to re-start major combat operations; discussions about possibly replacing “Operation Epic Fury” with “Operation Sledgehammer” underscore how seriously the administration is considering resuming the war started on February 28 – Reuters. (Why you should care – the White House has said it declared an end to the prior operation in early April, giving it a new 60-day window to operate before seeking Congressional approval)

JPMorgan Chase Chief Executive Officer Jamie Dimon said fixing “stupid” trade issues between the U.S. and Europe would pave the way for better growth; Dimon said the U.S. would benefit from a stronger NATO and allies in Europe – Bloomberg. (Why you should care – he suggested repairing the trade relationship would go a long way in supporting the U.S. and European economic outlooks)

Tuesday’s hot readout on consumer prices is intensifying Wall Street’s anxiety about inflation; even before the latest release of the consumer-price index, inflation expectations had been climbing, a potential trouble spot in a market where stocks have largely shrugged off the U.S.-Iran conflict and the resulting energy shock – WSJ. (Why you should care – high oil prices for a sustained amount of time could force the Federal Reserve to consider raising interest rates once more)

Economic Calendar:

Earnings: BABA, CSCO, DOX, MFC, QXO, SA, TAK, TSEM, USAR, VSH, WIX

Japan – Bank Lending for April

France – Unemployment Rate for Q1 (1:30 a.m.)

Sweden – CPI for April (2 a.m.)

Riksbank – Monetary Policy Meeting Minutes (3:30 a.m.)

Eurozone – GDP for Q1 (5 a.m.)

U.S. – OPEC Monthly Report (6 a.m.)

U.S. - MBA Mortgage Applications (7 a.m.)

U.S. – PPI for April (8:30 a.m.)

BoE’s Mann Speaks (10 a.m.)

U.S. - Energy Information Administration Crude Oil Inventory Data (10:30 a.m.)

Fed’s Collins (Boston, Non‑Voter) Speaks (11:30 a.m.)

BoE’s Mann Speaks (1 p.m.)

Treasury Auctions $30 Billion in 3-Year Notes (1 p.m.)

Fed’s Kashkari (Minneapolis, Voter) Speaks (1:15 p.m.)

BoC – Summary of Deliberations (1:30 p.m.)

ECB’s Lane (Chief Economist) Speaks (3 p.m.)

ECB’s Lagarde (President) Speaks (3:15 p.m.)