The stock market looks especially vulnerable to a sharp correction right now.
The stock market looks especially vulnerable to a sharp correction right now.
The U.S. Federal Reserve is tasked with keeping inflation under control, which typically means targeting an annual increase of around 2% in the Consumer Price Index (CPI). When inflation is too high, it puts pressure on household budgets and reduces corporate profit margins, so the Fed often hikes the federal funds rate (overnight interest rates) to put the brakes on the economy and cool prices down.
The CPI rose at an annualized rate of 3.4% in August, prompting the Fed to hike rates for the first time in three years at its September meeting. Fed chairman Kevin Warsh also warned more rate increases might be on the way if inflation remains persistently high, and the latest batch of data suggests that is exactly what is happening.
Rising interest rates can spell bad news for the stock market for a few reasons. In fact, the Fed's last rate-hiking cycle resulted in a bear-market decline of over 20% in the S&P 500 (^GSPC +0.58%) index. Here's what investors need to know.
Inflation is moving in the wrong direction
The U.S. and Iran have been locked in a fierce geopolitical conflict since late February. In an attempt to gain leverage, Iran has closed the Strait of Hormuz waterway, through which 25% of the world's seaborne oil transits each day. To make matters worse, the ongoing conflict between Saudi Arabia and Yemen took a turn for the worse recently, knocking even more oil supply offline.
As a result, a single barrel of West Texas Intermediate crude trades for over $100 as I write this (Oct. 19), a whopping 77% increase from its 2026 opening price of $57. Consumers now face soaring prices at the pump, but they are also paying more for groceries and retail products because it's suddenly more expensive to fuel the trucks, boats, and planes used to transport them.
The CPI increased at an accelerated annualized rate of 3.7% in September, with the energy component jumping by 20.4%. But it could get worse, because the September Producer Price Index (PPI) increased by 6.3%, with energy surging by 35.4%. The PPI measures the change in input costs for businesses, which are typically passed on to consumers through higher prices, so it's often a leading indicator of future CPI readings.
The CME Group's FedWatch tool, which tracks the probability of interest rate moves by analyzing the 30-day Fed Funds Futures market, suggests there is a 91% chance of another 25 basis-point hike in December. It also predicts two more hikes in March and June 2027, so it seems Wall Street is betting that high inflation is here to stay.
Rising interest rates are bad news for the stock market
Averytin News Financial update.