Stocks nose-dive; Dow down 1,063

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NEW YORK — A sharp sell-off left the Dow Jones Industrial Average more than 1,000 points lower Thursday, wiping out the gains from Wall Street’s biggest rally in two years, as worries grow that the higher interest rates the Federal Reserve is using in its fight against inflation will derail the economy.

The benchmark S&P 500 fell 3.6%, marking its biggest loss in nearly two years, a day after it posted its biggest gain since May 2020. The Nasdaq slumped 5%, its worst drop since June 2020. The losses by the Dow and the other indexes offset Wednesday’s gains.

The stomach-churning swings in the stock market have become bigger than usual in recent weeks, as investors panic that a combination of inflation and fast-rising interest rates could hit consumer spending, corporate profits and — ultimately — economic growth. In between those bouts of panic, glimmers of good news have triggered big rallies.

“[Wednesday’s] sharp rally was not rooted in reality and today’s dramatic sell-off is a reversal of that misplaced exuberance,” said Ben Kirby, co-head of investments at Thornburg Investment Management.

Wall Street’s breakneck day-to-day reversal reflects the degree of investors’ uncertainty and unease over the array of threats the economy is facing, starting with inflation running at the highest level in four decades, and how effective the Federal Reserve’s bid to tame higher prices by raising interest rates will be.

“There’s still a lot of fear out there,” said Dennis Dick, head of markets structure and a proprietary trader at Bright Trading. “People thought [Wednesday] was the green light, but now they’re getting caught again. Retail traders keep coming in and getting chopped up. The contrarians have been winning 2022.

“The only thing that will lead to a sustained turnaround is if we see inflation start to not look so hot,” he added. “Any rally that isn’t on improving inflation is a sucker’s rally.”

On Wednesday, the Federal Reserve announced a widely expected half-percentage point increase in its short-term interest rate. Stocks bounced around following the move but then sharply rose as bond yields fell after Fed Chair Jerome Powell reassured investors by saying the central bank wasn’t considering shifting to more aggressive, three-quarters-point rate increases as the Fed continues with further rate increases in coming months.

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But whatever relief Powell’s remarks gave stock investors vanished Thursday. Stocks slumped and bond yields climbed. The yield on the 10-year Treasury note rose to 3.04%. Rising yields are sure to put upward pressure on mortgage rates, which are already at their highest level since 2009.

Investors remain uneasy about about whether the Fed can do enough to tame inflation without tipping the economy, which is already showing signs of slowing, into a recession.

In addition to high inflation and rising interest rates, investors are grappling with uncertainty over lingering supply chain disruptions and geopolitical tensions.

“The biggest issue is there are just a lot of moving parts and the unanswered question is to what extent as the Fed attempts to tame inflation will that result in economic slowing, and perhaps, a recession,” said Terry Sandven, chief equity strategist at U.S. Bank Wealth Management.

The S&P 500 fell 153.30 points to 4,146.87, while the Nasdaq slid 647.16 points to 12,317.69. The Dow briefly skidded 1,375 points before closing down 1,063.09 points, or 3.1%, to 32,997.97.

Stocks in smaller companies also fell sharply. The Russell 2000 fell 78.77 points, or 4%, to 1,871.15.

FOCUS ON FED MOVES

The Fed’s aggressive shift to raise interest rates has investors worrying about whether it can pull off the delicate dance to slow the economy enough to halt high inflation but not so much as to cause a downturn.

On Wednesday, Powell said there was a “good chance” that the economy will have a “soft or softish landing or outcome” as the central bank raises rates.

But Wall Street isn’t necessarily convinced.

“Concerns focus on whether the Fed will have to become even more hawkish to bring demand down — and that would involve slowing the economy more than they now project,” said Quincy Krosby, chief equity strategist for LPL Financial. “And today’s market action is questioning whether ‘softish’ is plausible.”

The latest move by the Fed to raise interest rates by half a percentage point had been widely expected. Markets steadied this week ahead of the policy update, but Wall Street was concerned the Fed might elect to raise rates by three-quarters of a percentage point at its next meeting. Powell eased those concerns, saying the central bank is “not actively considering” such an increase.

The central bank also announced that it will start reducing its huge $9 trillion balance sheet, which consists mainly of Treasury and mortgage bonds, starting June 1. Those large holdings are a policy tool the Fed uses to keep long-term interest rates, like those on mortgages, low.

When Powell said the Fed wasn’t considering a mammoth increase in short-term rates, that sent a signal to investors to send stock prices soaring and bond yields tumbling. A slower pace of interest-rate increases would mean less risk of the economy tipping into recession, as well as less downward pressure on prices for all kinds of investments.

But diminishing the odds of an increase of three-quarters of a point doesn’t mean the Fed is done raising rates steadily and sharply as it fights to tame inflation. Economists at BNP Paribas still expect the Fed to keep raising the federal funds rate until it reaches a range of 3% to 3.25%, up from zero to 0.25% earlier this year.

“We do not think this was Chair Powell’s intention,” economists at BNP Paribas wrote in a report, citing the market’s jubilance on Wednesday, “and we reckon we could see coming ‘Fedspeak’ seek to re-tighten financial conditions.”

The Bank of England on Thursday raised its benchmark interest rate to the highest level in 13 years, its fourth rate change since December as U.K. inflation runs at 30-year highs.

Energy markets remain volatile as the conflict in Ukraine continues and demand remains high amid tight supplies of oil. European governments are trying to replace energy supplies from Russia and are considering an embargo. OPEC and allied oil-producing countries decided Thursday to gradually increase the flows of crude they send to the world.

Higher oil and gas prices have been contributing to the uncertainties weighing on investors as they try to assess how inflation will ultimately impact businesses, consumer activity and overall economic growth.

Shares of homebuilders fell broadly Thursday as average long-term home loan rates climbed. D.R. Horton slid 5.8%.

The average rate on a 30-year fixed-rate mortgage rose to 5.27% this week, its highest level since 2009, according to mortgage buyer Freddie Mac. A year ago, it averaged 2.96%. Mortgage rates tend to follow moves in the 10-year Treasury yield. The sharp increase in mortgage rates has strained affordability for homebuyers after years of sharply rising prices.

KEY REPORTS

Many companies have pinned rising prices on rising labor costs, and economists worry that high inflation may become more permanent if wages continue to rise quickly. Fresh data released Thursday showed just how much those costs are rising, with weaker productivity and stronger compensation leading to an 11.6% increase in unit labor costs, the Labor Department reported.

“Today’s data was startling and very inflationary, suggesting that the good intentions communicated [Wednesday] are unlikely to be realized,” said Scott Knapp, chief market strategist at CUNA Mutual Group.

But investors are also about to get two more widely watched updates on the economy. The Labor Department is set to publish its monthly report on hiring today, and economists surveyed by Bloomberg currently expect it to say that 380,000 jobs were created last month, another strong showing for the economy.

The government will also release its latest update of the consumer price index next week. In March, that measure of inflation rose 8.5%, its fastest 12-month pace since 1981.

The data and shifting expectations about the economy are fueling bigger swings in stock prices than investors have seen since 2020, a year in which the coronavirus pandemic and the U.S. presidential election whipsawed financial markets.

So far this year, the S&P 500 has gained or lost more than 2.5% on seven separate days, all of them in March, April and May. In 2021, there was only one day in which stocks rose or fell by that much, in late January of that year.

Information for this article was contributed by Damian J. Troise, Alex Veiga and Stan Choe of The Associated Press; by Vildana Hajric and Ryan Vlastelica of Bloomberg News (WPNS); and by Coral Murphy Marcos of The New York Times.