High interest rates roil stocks as high inflation tests Fed

Federal Reserve Chairman Jerome Powell speaks during a House Finance Committee hearing on Wednesday, Dec. 1, 2021, in Washington, DC.

Al Drago | Bloomberg | Getty Images

U.S. stocks resumed their sell-off on Monday as government bond yields continued to rise, suggesting many traders are increasingly certain the Federal Reserve will raise interest rates in the coming months.

Traders said the pressure on U.S. stocks was not due to material concerns about the economy or fears of a massive resurgence of Covid-19, but rather a repositioning of portfolios to adapt to a world with higher borrowing costs.

As the nation’s central bank, the Fed’s mission is to maximize employment and keep prices stable. The Fed adjusted short-term interest rates and other liquidity tools to keep inflation around 2% and keep unemployment as low as possible.

When the Fed determines that the economy is near full employment — especially with inflation running high — it raises interest rates to make it harder for businesses to borrow and limit spending that spurs higher prices.

The Labor Department reported in December that prices paid by consumers for goods and services rose more than 6 percent in November, the largest year-over-year increase since 1982.

Many market watchers, including Charles Schwab’s Randy Frederick, said high inflation all but warrants a rate hike by the Fed in the coming months.Central bank members have telegraphed that they Plan to limit access to cash sooner Better than initially expected.

Those expectations have sent yields on the benchmark 10-year Treasury note higher in recent weeks, It was last up about 1.77% From a low of 1.4% in December. Changes in 10-year yields ultimately have a direct impact on consumers through higher mortgage rates and auto loans.

Frederick, head of trading and derivatives at the Schwab Center for Financial Research, explained that markets appeared to be caught off guard by Chairman Jerome Powell’s shift from calling inflation “transient” to tighter monetary policy.

“These are all efforts to combat rising inflation, which I think is going further and faster than inflation. [Powell] He had expected that,” he said. “So now you have the potential to raise rates, and it looks like they might not start going up until June. There is now an 80% chance that it will happen in March. “

Frederick wasn’t alone in that thought. The Fed’s latest minutes, combined with high inflation and near-full employment, led Goldman to tell clients that it now expects four rate hikes in 2022, more than previously forecast.

Markets are now pricing in a 76% chance the Fed will raise rates at the FOMC’s March meeting, up from about 15% in mid-October. CME Group’s FedWatch website.

Monday’s sell-off also comes a day before Powell is due to appear before congressional nomination hearings. Lael Brainard, nominated by President Joe Biden to be the central bank’s next vice chairman, will testify on Thursday.

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Lawmakers troubled by rising prices at gas stations and grocery stores are expected to question Powell about how he and his colleagues at the Fed plan to drive inflation down to the Fed’s 2 percent target.

But higher interest rates — or the market’s expectations for higher rates — could lead to financial heartburn as traders sell Treasuries and pricier stocks.

“In the tech industry with very high valuations, there are a lot of new companies with debt and leverage,” Frederick said. It may be harder for these companies to keep cash on hand “because when debt comes due, it has to be replaced at a higher rate.”

Among the three major U.S. stock indexes, traders’ recent sell-off has focused on the individual stocks that make up technology stocks Nasdaq Composite. The Nasdaq is 8.5% below its all-time high, while the Nasdaq is down 3.5%. S&P 500 and a 2.7% decline Dow Industries. The Russell 2000 index, which tracks small public companies, is more than 12% below its record.

Sectors and stocks considered more financially defensive and with better near-term profit expectations outperformed the broader market.utilities like Xcel Energy and Duke Energy Obtained at the same time as the drug manufacturer Merck and Amgen rose 2% and 1%, respectively.