Why does the stock market care so much about a rate cut?

By CNN

Published December 9, 2025 3:30 AM

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By John Towfighi, CNN

New York (CNN) — Just a few weeks ago, the stock market stumbled over fears that artificial intelligence stocks might be in a bubble. Now stocks are back within reach of a record high.

Thank the Federal Reserve.

The market has rebounded from a dip in early November as investors have leaned into bets that the Fed will cut interest rates this week at its last policy meeting of the year.

Interest-rate cuts can boost stocks by lowering savings rates and borrowing costs for individuals and businesses, in turn encouraging spending and investing, spurring business activity and increasing corporate earnings.

Fed rate cuts can also lower the yield on short-term government bonds and cash equivalents like money market funds, making higher-yielding assets like stocks more attractive to investors.

All told, interest-rate cuts can create a strong tailwind for stocks.

Jonathan Krinsky, chief market technician at BTIG, said in a Monday note that the stock market’s recent rise has coincided with increasing odds for a Fed rate cut in December.

Traders on Monday were pricing in an 89% chance the Fed cuts rates, according to CME FedWatch.

“Markets have essentially seen a complete reversal of November’s weakness,” Krinsky said. “This has coincided almost in lock-step with rate-cut odds for the upcoming December (Fed) meeting.”

Lower rates can boost stocks

The Fed is cutting rates in response to concerns about a weakening labor market. But for investors, lower rates can provide fuel for stocks to rally.

The Fed’s benchmark interest rate influences a range of interest rates across the economy. A Fed rate cut can lead to lower financing costs for a broad range of companies.

The Russell 2000, a market index of smaller companies that are more rate-sensitive, hit a record high on December 4.

“When you look at the firms that are more vulnerable and are smaller, like those in the Russell 2000, when you have lower rates, their interest expenses drop heavily, and that widens their profit margins,” said José Torres, senior economist at Interactive Brokers. “That’s really why areas like real estate, manufacturing and small businesses benefit a lot more from lower rates.”

To be sure, while investors have embraced hopes for a rate cut this week, Wall Street is always forward-looking, and there is less certainty about the path of rate cuts in January.

The Fed on Wednesday will release its quarterly summary of economic projections, which lays out — anonymously — officials’ expectations for the course of interest rates across the coming months.

“As the (Fed) considers additional rate cuts at its meeting this week and into 2026, reaccelerating inflation would likely force a slower, more cautious path,” Jayson Pride, chief of investment strategy and research at Glenmede, said in a note.