The close: Stocks rally as investors regain risk appetite with a vengeance after initial inflation sell-off

The close: Stocks rally as investors regain risk appetite with a vengeance after initial inflation sell-off

Stocks rebounded from an initial sell-off on Thursday after a report showed that U.S. inflation rose to fresh four-decade highs and underscored further uncertainty over central bank rate hikes.

The S&P 500 index fell sharply in morning trading, at one point touching its lowest level in about two years. It then jumped and ended the day up 2.6 per cent.

From its low at the start of the day to its higher closing level, the index rebounded 5.1 per cent, marking an unusually large intraday move that baffled many observers. Economically sensitive sectors, such as financials, technology and energy showed the biggest gains.

“It’s head spinning action,” Ed Yardeni, president and chief investment strategist at Yardeni Research, said in a note.

Similarly, Canada’s S&P/TSX Composite Index fell as much as 1.8 per cent in early trading before rebounding. It ended the day up 2.2 per cent.

The stock market’s perplexing rebound after initially falling early on Thursday left some observers searching for technical explanations, given the lack of fundamental drivers for the apparent shift in investor sentiment.

The initial fall marked six straight days of drops for the S&P 500, suggesting that stocks may have been reflecting bad news already and positioned for a bounce.

As well, at Thursday’s low point, the drop since January had erased almost half of the S&P 500′s gains since the pandemic low in March, 2020 – again, suggesting that the sell-off may have been overdone.

Charlie Bilello of Compound Capital Advisors, noted that the S&P 500 was down 28 per cent from its record high in early January. That’s in line with the median average bear market drop of 29 per cent, for data going back to 1929.

Investors may be thinking that the sell-off in 2022 has reached its limit. However, there is nothing stopping the current bear market from deviating from the average, particularly if the economy deteriorates further.

According to Mr. Bilello’s research, the median average bear market drop for the S&P 500 when there is a recession is noticeably more painful, at 42 per cent.

The remarkable seesawing extended the market turbulence that has defined much of 2022, particularly since the start of September.

Since then, the U.S. Federal Reserve has reinforced its position that it will continue to raise its key interest rate aggressively until it sees clear signs of defeating inflation.

The latest reading suggests that inflation remains a threat.

The U.S. Labor Department reported that “core” consumer prices – which exclude volatile food and energy items – gained 6.6 per cent in September, compared with a year earlier, and up from 6.3 per cent in August.

“The September inflation data for the U.S. showed that core price pressures remained red hot, adding urgency to the Fed’s rate hiking path,” Katherine Judge, an economist at CIBC World Markets, said in a note.

Besides its impact on the stock market, the inflation reading also sent bond yields on a wild ride.

The yield on the 10-year U.S. Treasury bond briefly rose to a fresh multiyear high of 4.06 per cent (as yields rise, bond prices fall), before subsiding below the 4-per-cent threshold.

The Fed has raised rates five times this year, most recently by a giant-sized three-quarters of a percentage point in September, in an attempt to slow economic activity and bring down the rate of inflation toward a target of 2 per cent.

Many economists expect the central bank will raise its rate by another three-quarters of a percentage point in November, even amid concerns of a coming recession and slowing corporate profits.

This view was bolstered by minutes from the Fed’s September monetary policy meeting, released on Wednesday.

“There is a key theme found throughout these latest minutes: Inflation is still too high and the Fed will not rest until they’re confident that inflation is brought to heel,” Taylor Schleich, an economist at National Bank Financial, said in a note.

Also see: ‘Recession odds just took a giant leap forward’: How the Street is reacting to hot inflation data and a stunning bounceback in stocks

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