Tuesday’s stock market decline was precipitated by Wall Street’s unexpected realization that inflation is not decelerating as anticipated.
A greater-than-anticipated inflation report caused Wall Street and global markets to crash. In the past year, the Consumer Price Index grew 8.3% as rising costs for food, lodging, and medical care were offset by falling gasoline prices.
While last month’s increase was less than July’s 8.5% increase, it was greater than the 8.1% economists had predicted, indicating that prices continue to be uncomfortably high.
By 11:07 a.m., in response to the report, the S&P 500 had fallen 3%. EST during the morning session, threatening a four-day winning run. The Dow Jones Industrial Average decreased by 852 points, or 2.6%, to 31,529, while the Nasdaq composite declined by 3.0%. All eleven sectors of the S&P 500 declined, including the eleven largest tech companies.
As a result of the poor report, many predict that the Federal Reserve will ultimately raise interest rates much higher than anticipated to battle inflation, with all the economic risks that entails.
“Right now, the destination is of greater concern than the route,” said Brian Jacobsen, senior investment strategist at Allspring Global Investments. If the Fed wants to raise rates and maintain them, the question is at what level.
Nearly everyone on Wall Street believed that the Fed would raise its main short-term rate by three-quarters of a percentage point at its meeting next week, followed by smaller rate hikes in subsequent months. It was believed that a deceleration in inflation would allow the Fed to reduce the magnitude of its rate hikes until the end of this year and then hold steady until early 2023.
Food bank demand soars amid inflation 02:37
Sinem Buber, chief economist at ZipRecruiter, noted in an email that the Fed “may have to hold rates higher for longer to manage inflation, with greater pain for the housing market and labor market along the way.”
Many of the inflation report’s data points were worse than expected, including those that the Fed pays special attention to, such as inflation outside of food and energy costs. The markets anticipated a 0.6% increase from July to August, which was double what economists anticipated.
03:28 The Federal Reserve will maintain its tough stance against inflation.
According to Gargi Chaudhuri, head of investment strategy at iShares, “this shows that inflation expectations may be solidifying.”
“The market had been settling into a ‘peak’ mentality — peak inflation and peak Funds Rate expectations — and now investors are questioning whether these numbers have further to run on the upside,” stock analyst and head of Vital Knowledge Adam Crisafulli wrote in a note to investors.
Increasing likelihood of a one-percentage-point increase
The inflation numbers were so much worse than anticipated that traders now estimate a one-in-five possibility that the Fed will raise interest rates by a full percentage point next week. That would be four times the typical change, and no one in the futures market had predicted such an increase a day earlier.
Traders now anticipate a greater than 60% chance that the Fed will raise its federal funds rate to a range of 4.25 to 4.50 percent by March. According to CME Group, they had less than a 17% possibility of such a high rate a day ago.
The Federal Reserve has already hiked its benchmark interest rate four times this year, with the past two increases amounting to 0.75 percentage points. The federal funds rate is now between 2.25 and 2.50 percent.
Higher rates harm the economy by increasing the cost of purchasing a home, a car, or any other item purchased on credit. Mortgage rates have already reached their highest point since 2008, causing distress in the housing market. The aim is that the Fed can walk the tightrope of slowing the economy just enough to eliminate rising inflation without triggering a devastating recession.
How inflation could influence people’s insurance as costs continue to climb on MoneyWatch at 02:43
In the meanwhile, rising rates also exert downward pressure on the prices of stocks, bonds, and other investments. Bitcoin fell 5.3% as investments viewed as the most expensive or risky were hurt most by increasing interest rates. Bond prices also fell dramatically, causing yields to increase.
Investors lack optimism.
On the stock market, all but a dozen of the S&P 500’s equities declined. Technology and other high-growth businesses fell more than the rest of the market because they are perceived to be the most vulnerable to rising interest rates.
Chris Williamson, executive director of S&P Global Market Intelligence, stated in a research, “Investor sentiment remains extremely negative in September, showing elevated risk aversion and the second-lowest forecast of near-term market return in the previous two years.”
Apple, Microsoft, and Amazon all dropped more than 3.3% and were the market’s largest weights. The communication services sector, which includes the parent company of Google as well as other internet and media companies, lost 3.9%, the most among the 11 sectors comprising the S&P 500 index.
“The clear majority of investors asked forecast the coming year to be one of recession and elevated inflation, which means that the global economy and tightening monetary policy will continue to serve as significant drags on market performance and corporate profitability,” Williamson explained.