On Thursday, Federal Reserve Bank of St. Louis President James Bullard said he supports raising interest rates by a full percentage point by the start of July with the Consumer Price Index reaching 7.5%, Fed swaps now showing a full point of tightening over the next three meetings.
The S&P 500 index fell to daily lows and the high-tech Nasdaq 100 index declined by more than 1%, the worst result among major indices. The yield on 10-year Treasuries rose over 2%, the highest level since August 2019, and the rate on two-year bonds jumped to 1.56%, the highest level since January 2020.
Bullard's plan includes spreading the hikes over three meetings, reducing the Fed's balance sheet starting in the second quarter, and then determining the pace of rates in the second half of the year based on updated data. However, he has not yet decided whether the rate should be raised by 50 basis points at the March meeting.
"Right now, investors are not only worried about what the Fed does on interest rates, but then what impact that will have on growth." Inflation's hot, but "investors will move toward looking at cash flows and what companies are going to be doing, and I think that's supportive of the markets," Chris Gaffney, president of world markets at TIAA Bank, said.
The Fed slashed the upper band of its target funds rate to 0.25% at the onset of the pandemic in 2020, matching the lowest level on record, and has kept it there since to foster an economic recovery. A sea of liquidity boosted stocks, lifting the S&P 500 Index to another record high through 2021 and into early January, but fears of tighter monetary policy have driven stocks lower this year, sending the S&P 500 Index down about 4% since the beginning of the year.
"The initial reaction of higher yields, higher front end yields and 'risk-off' for the Nasdaq 100/ARKK type of stocks seems like a good one to fade. Maybe I'm being stubborn, but I think that's the number we should have passed and now that we have, I think we may see a decline in yields," Peter Tchir, head of macro strategy at Academy Securities, said.
Interest-rate-sensitive stocks, such as utilities and technology, led to losses in the S&P 500 Index, but not all sectors were down. Banks, which benefited from higher lending rates, rose, as did the energy and commodities sectors, which are tied to growth in major commodities. Good results from companies like Walt Disney Co. and Coca-Cola Co. also supported this sentiment.
"High energy prices and supply issues are stoking inflation but these issues should eventually fade. Of greater concern is that wage pressures are building and the central bank will not want to risk a wage price spiral. Looking ahead though, real consumer spending on discretionary goods and services is likely to cool naturally, as higher energy costs begin to bite," Jai Malhi, global market strategist at JPMorgan Asset Management, said.