Inflation-Struck Stock Market Stumbles to Two-Year Low

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The stock market had its worst day since June 2020 following a worse-than-expected CPI report that foreshadowed higher rate hikes through December.

Wall Street had expected inflation to decrease to 8.1% in August because of lower fuel costs and higher consumer confidence. However, inflation surprised expectations by decelerating to 8.3% year-over-year and increasing by 0.1% from July.

The stock market reacted to the inflation report with a mass sell-off, with traders dumping bonds, commodities, gold, cryptocurrencies, and crude oil. The fear-based sell-off knocked the Dow Jones Industrial Average down more than 1,250 points and the benchmark S&P 500 down by 4.3% by the end of trading on Tuesday.

Excluding the food and energy component of inflation, most consumer goods and services continued their monthly increase from July to August. With inflation proving more persistent than hoped, economists are anticipating the Fed to step up with higher rate hikes for the remainder of the year.

“The Fed can’t let inflation persist. You have to do whatever is necessary to stop prices from going up,” said Russell Evans, managing principal at Avitas Wealth Management. “This indicates the Fed still has a lot of work to do to bring inflation down.”

August’s inflation figures were so much worse than analysts hoped for that 20% of traders began to immediately price in a full percentage point jump at the next FOMC meeting on September 20-21, though most foresee a 75-basis-point increase. Economists were hopeful a slowdown in inflation would give the Fed room to downsize its rate hike through the remainder of 2022.

Future expectations are that the Fed will push interest rates within the range of 4.25% to 4.50% by March of 2023, according to CME Group. To date, the Fed has raised its benchmark interest rate four times in 2022, with rates currently in a range of 2.25% to 2.50%.

With one of the worst days for the stock market since the early days of the pandemic, some economists are finding it harder to believe the Fed will be able to steer the economy to a “soft landing.”

The fear of higher and persistent rate hikes sent tech stocks like Apple, Microsoft, and Amazon down more than 4%, communication service stocks like Google down by 4.8%, and cryptocurrencies like Bitcoin down by 7.1%. On the other hand, Treasury yield rose on the expectation of higher interest rates.

The yield on the two-year Treasury, which tends to track expectations for Fed actions, rose from 3.57% to 3.76%. The 10-year yield, which helps dictate where mortgages and rates for other loans are heading, rose from 3.36% to 3.42%.

“Right now, it’s not the journey that’s a worry so much as the destination,” said Brian Jacobsen, senior investment strategist at Allspring Global Investments. “If the Fed wants to hike and hold, the big question is at what level.”

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