Stop staring at the Fed. It doesn't set interest rates.Interest Rates and Stock Prices: An Old Debate Flares up!

In 2026 the war in Iran, oil prices and recession jitters took turns grabbing headlines, but the anxiety running through the whole year was just one: where are interest rates going.

More debt means pricier debt

Washington borrows by issuing treasuries. This year long-term yields climbed to levels unseen in twenty years, with 20- and 30-year rates both above 5%. At the same time US debt passed $40 trillion for the first time, and bond buyers started wondering whether so much debt is still worth holding.

On top of that the Fed has a new chair, Kevin Warsh, and the mid-September FOMC meeting is being watched harder than usual. But the author argues that pinning every rate move on the Fed is too simple.

Rates rest on inflation plus growth

The author uses an 'intrinsic riskfree rate': expected inflation plus real GDP growth. In the 1970s inflation ran wild and rates hit a century high; from 2009 to 2021 inflation was low and growth weak, so rates sat near the floor.

In 2022 inflation spiked and the ten-year rate doubled from 1.52% to 3.88%, and since then it has stayed stuck between 4% and 5%. The reason is that long-term expected inflation settled around 2.5%, so even with oil up again this year, expected inflation barely budged.

Globally, euro, yen, pound, Australian and Canadian government bonds all jumped together in 2022, while yuan, rupee, real and rand rates wobbled and in three of the four cases are lower than in 2021. That convergence wrecked the carry trade — borrowing in a cheap currency to lend in an expensive one — and the author thinks it deserved it. Calling it an investment strategy insults investing.

Why stocks didn't fall

By the textbook, higher rates mean a higher discount rate and lower stock prices. But stocks differ from bonds: a bond's coupon is fixed at issue, while a company's future cash flows move with the business.

When rates rise, companies can cut reinvestment, keeping cash closer to home, so near-term cash flows go up. Some firms get hurt, some break even, some benefit. Which group dominates decides the market's direction.

Through August 2026 the S&P 500 and Nasdaq still rose. The secret is earnings: analysts raised their 2026 and 2027 profit forecasts by more than 11%. Still, on days when the ten-year yield rose more than 3 basis points, the S&P fell nearly half a percent on average.

By sector, energy and tech led, but tech's gains rest on a few giants — the median tech company rose just 7.75% against 25.22% for the sector. Consumer, utilities and communications lagged, squeezed by weak pricing power and high costs.

In one line: inflation expectations set the course of rates and the Fed chair can do little about it; what really holds up under higher rates is the money companies earn themselves.