Fear gripped financial markets on Thursday, and Wall Street fell as concerns resurfaced that the world’s fragile economy could bow under high interest rates.
The S&P 500 fell 3.3% in a broad wipeout to reverse its blip of a 1.5% rally from a day earlier. Analysts had warned of more large volatility, given deep uncertainties about whether the Federal Reserve and other central banks could follow the narrow path of raising interest rates to keep inflation under check. Not that they cause a recession.
The Dow Jones Industrial Average was down 2.4% and was down more than 900 points, while the Nasdaq Composite fell 4.1%. It was the sixth loss for the S&P 500 in seven previous attempts, and all but 3% of the shares in the index fell.
Wall Street fell along with stocks across Europe after central banks followed the Federal Reserve’s big interest rate hike on Wednesday. The Bank of England raised its key rate for the fifth time since December, though it opted for a marginal increase of 0.25 percentage points compared to the 0.75-point hammer brought in by the Fed.
Meanwhile, Switzerland’s central bank raised rates by half a point for the first time in years. Taiwan’s central bank raised its key rate by an eighth of a point. Japan’s central bank began a two-day meeting, though it has held off on raising rates and other economy-slowing moves that investors call “hawkish”.
Such moves and expectations of much more have driven investments from bonds to bitcoin this year. Higher interest rates tend to slow down the economy by design in hopes of stamping out inflation. But they are a blunt tool that can squander the economy if used too aggressively.
“Another concern is the already weak economic data coupled with policy changes,” said Bill Northey, senior investment director at US Bank Wealth Management. “This increases the likelihood of a recession in 2023 through the latter half of 2022.”
Concerns earlier this week dragged the S&P 500 into a bear market, meaning it was down more than 20% from its peak. It is now down 23.6% from its record set earlier this year and is back at the end of 2020. This effectively wipes out 2021, which was one of the best years for Wall Street since the turn of the millennium.
The S&P 500 fell 123.22 points to end at 3,666.77. The Dow closed down 741.46 at 29,927.07 and the Nasdaq fell 453.06 to 10,646.10. The biggest losses on Thursday were on stocks of smaller companies, a sign of pessimism about the strength of the economy. The Russell 2000 Index of smaller stocks fell 81.30, or 4.7%, to 1,649.84.
Not only is the Federal Reserve raising short-term rates, but this month it has also begun allowing the few trillion-dollar bonds purchased through the pandemic to roll off its balance sheets. This should create upward pressure on long-term interest rates. This is another way that central banks are snatching the support the markets previously held below to juice up the economy.
The US economy is still strong, driven in particular by a strong job market. Fewer workers applied for unemployment benefits last week than a week ago, a report showed on Thursday. But other signs of trouble are emerging.
On Thursday, a report showed homebuilders broke ground on fewer homes in the past month. The rise in mortgage rates directly generated by the Fed’s moves is digging into the industry. A separate reading on manufacturing in the mid-Atlantic region also fell unexpectedly.
“Corporate earnings estimates have not yet changed to reflect some softer economic data and this could lead to a second phase of this revaluation,” Northey said.
Treasury yields rose sharply on Thursday, with the 10-year yield falling to 3.23% from 3.39% late Wednesday. It had climbed up to 3.48% in the morning, which is close to its highest level since 2011.
Higher rates are hitting the hardest this year, having risen the most through easy, ultralow rates from earlier in the pandemic, which are now one of the most expensive and risky investments. This includes bitcoin and high-growth technology stocks.
Big tech stocks were the top losers in the market on Thursday, but the sharpest losses were on stocks whose profits depend more on the strength of the economy and whether customers can continue buying amid the highest inflation in decades.
Cruise operators Norwegian Cruise Line Holdings, Royal Caribbean Group and Carnival all lost more than 11%.
It’s all a sharp turnaround from a day earlier, when stocks rallied shortly after the Fed’s biggest rate hike since 1994. Analysts said investors should heed a comment from Fed Chair Jerome Powell, who said a mega-hike of three-quarter percentage points would not be normal.
Powell said on Wednesday the Fed is moving “rapidly” to bring rates closer to normal levels after last week’s surprise report showed an unexpectedly sharp spike in consumer-level inflation last month that dashed expectations. given that inflation may have already peaked.
The Fed is “no longer trying to induce a recession, let’s be clear about that,” Powell said. He called Wednesday’s big increase “front-end loading.”