Photo: The Canadian Press
Wall Street shuddered on Friday and shares fell after being hit by data showing that inflation is getting worse, not improving, as investors expected.
The S&P 500 was 2% lower in the first half hour of trading, while movements in the bond market indicated that investor concerns are piling up about a possible recession. The Dow Jones Industrial Average fell 611 points, or 1.9%, to 31,661 at 9:55 a.m. Eastern time, and the Nasdaq compound was down 2.4%.
Wall Street arrived on Friday in hopes of a long-awaited report on the consumer price index shows that the worst inflation in generations slowed down a touch last month. In contrast, the U.S. government said inflation accelerated to 8.6% in May from 8.3% a month earlier.
The Federal Reserve has already begun raising interest rates and making other moves to slow the economy, in hopes of forcing inflation down. Wall Street said Friday’s reading meant that the Fed’s foot will remain firmly held back for the economy, destroying hopes of a pause later this year.
The growing expectation in the markets is that the Fed will raise its key short-term interest rate by half a percentage point in each of its next three meetings, starting next week. The third of September had been debated among investors in recent weeks. The Fed has raised rates at this rate only once since 2000, last month.
“Inflation is hot, hot, hot,” said Brian Jacobsen, senior investment strategist at Allspring Global Investments. “Basically, everything was ready. No relief is seen, but a lot may change between now and September. No one knows what the Fed will do in a few months, including the Fed.”
The price of a stock goes up and down on two things, essentially: how much profit a company makes and how much an investor is willing to pay for it. Fed interest rate movements have a big influence on this second half.
Since the beginning of the pandemic, record low interest rates designed by the Fed and other central banks have encouraged investors to pay higher prices for investments. Now the “easy mode” shuts down abruptly and forcefully.
Not only that, but the Fed’s rate hikes could be too hard to push the economy into a recession. Higher interest rates make borrowing more expensive, dragging down household and business spending and investment.
The two-year Treasury yield rose to 2.94% after the inflation report, after hitting its highest level since 2018. It has risen from 2.83% on Thursday afternoon.
The 10-year yield also rose, but more modestly than the two-year yield, which is more influenced by expectations of Fed moves. The 10-year yield rose from 3.04% to 3.10%.
The narrowing of the gap between these two yields is a sign that bond market investors are more concerned about economic growth. In general, the gap is wide, with 10-year yields higher because they require investors to close their dollars for longer.
If the two-year yield rises above the 10-year yield, some investors see it as a red flag warning of a recession in a year or two.
“A higher-than-expected CPI number seals agreement with investor fears,” Mike Loewengart, Morgan Stanley’s CEO of E-Trade, wrote in a research note. “And while consumers may be experiencing high prices on a day-to-day basis, especially at the pump, it’s disappointing to see that we still don’t have a cap on inflation, despite the Fed’s efforts.”
The S&P 500 is on its way to closing its ninth losing week in the last 10.
Shares also fell in Europe for a second day after the European Central Bank said it would soon raise interest rates for the first time in more than a decade to fight inflation.
The German DAX fell 2.4%, the French CAC fell 2.4% and the London FTSE 100 fell 2.1%.
In Asian trade, Shanghai stocks rose 1.4% after news that inflation remained moderate at 2.1% in May.
With inflation below the government’s 3% target, Chinese leaders have more leeway to offer political support to their economy when anti-VOCID restrictions may hold back businesses.
Tokyo’s Nikkei 225 index lost 1.5%, while Seoul’s Kospi lost 1.1%.