US stocks fell sharply Friday after Federal Reserve Chairman Jay Powell emphasized his determination to raise interest rates to curb inflation in an aggressive speech at the annual Jackson Hole central bank summit.
Wall Street’s S&P 500-meter fell 2.2 percent, while the Nasdaq Composite lost 2.7 percent. The Nasdaq weighs heavily against technology stocks, which are more sensitive to raised interest rate expectations. The regional Stoxx 600 stock index in Europe lost 1.7 percent.
The decline in US stocks on Friday was broad, with more than 95 percent of companies on the S&P 500 index on the day. Every major sector was in the red, with more economically sensitive sectors such as financials and manufacturing.
Powell said Friday that the Fed should “keep working until the job is done,” while delivering his most aggressive message yet about the US central bank’s determination to tame rapid price growth.
The Fed is fighting its strongest period of consumer price increases in about four decades, with inflation hitting 8.5 percent in July. But policymakers are also trying to prevent the world’s largest economy from entering a deep recession with their program of aggressive rate hikes.
“[Powell] is pushing against the idea of raising rates and cutting them soon,” said Stewart Robertson, chief economist at Aviva Investors. “I think this is the first sign that Powell is saying ‘we’re going to have a bad period and we have to have it’.”
Market prices on Friday indicated that investors expected the Fed to raise interest rates to 3.8 percent in February 2023, from expectations of 3.3 percent at the beginning of this month.
“The implications for the stock market are that previous expectations of a Fed pivot seem premature and so the near-term direction could be a summer rally reversal. Ultimately, these higher interest rates and further economic slowdown will weigh on corporate earnings later this year,” said Janet Mui, head of market analysis at asset manager Brewin Dolphin.
Immediately after Powell’s speech, U.S. Treasuries reacted “fairly optimistically,” Robertson said. The yield on the two-year Treasury, which closely follows interest rate expectations, rose by 0.04 percentage point to 3.41 percent. The yield on the 10-year bond, which is more sensitive to growth expectations, remained more or less stable at 3.03 percent.
Already predictions of tighter policies and higher borrowing costs are starting to weigh on investor sentiment in corporate bond markets.
The yield differential between high-yield US corporate bonds and very-low-risk government bonds has widened in recent weeks, from 4.2 percentage points on Aug. 11 to 4.6 percentage points at the close of trading on Thursday, according to an Ice Data Services index.
Junk bond funds posted $4.8 billion in outflows in the week to Wednesday, the largest redemption in nine weeks, according to EPFR data collected by Bank of America.
Elsewhere, the European Central Bank is widely expected to raise interest rates by half a percentage point for the second consecutive time at its next policy meeting on September 8.
According to a Reuters report, some policymakers are urging the ECB to consider a more aggressive move to raise interest rates by 0.75 percentage points amid fears of rising energy prices that have already pushed inflation in the eurozone to record levels.
The ECB declined to comment. But a decision has not yet been made on whether such a move will be discussed at next month’s meeting, and this could depend on whether inflation continues to exceed expectations when the latest figures are released on Wednesday.
The ECB raised borrowing costs by 0.5 percentage point to zero last month.
Yields on Italian 10-year bonds rose 0.17 percentage point to 3.72 percent, following a sharp fall in prices as investors weighed in on the potential effect of higher borrowing costs on Europe’s weaker economies. Germany’s equivalent interest rate added 0.08 percentage point to 1.4 percent, while the policy-sensitive two-year Bund yield added 0.13 percentage point.
Additional reporting by Martin Arnold in Frankfurt