Stock Market Volatility: Schwab’s Quick Take

U.S. stocks suffered another day of losses Monday, as the market continued to weigh the risk that the Federal Reserve’s aggressive anti-inflation campaign could push the economy into recession. No industrial sectors save the more-defensive Consumer Staples sector were spared, with Technology, Consumer Discretionary and Energy among the hardest hit. Bitcoin also felt the pressure, falling nearly 12% during the day. The cryptocurrency has lost half its value since it touched its all-time high back in November.

Investors appear increasingly concerned the Fed will have a hard time battling back historically high levels of inflation without crushing economic growth. Our view is that the Fed is likely to raise its benchmark interest rate in half-a-percentage-point increments at its next few meetings, before easing back to quarter-point hikes later in the year. The Fed want to raise rates to a “neutral” level by the end of the year, which could be around 2.5%, based on current projections.

However, markets see the rate hitting 2.6% at year-end and then rising as high as 3.2% by next July. Separately, a survey released Monday by the Federal Reserve Bank of New York showed that households’ three-year expectations for inflation increased to 3.9% in April. If households bring forward purchases because they think prices will continue rising, rising prices could become a self-fulfilling prophecy, complicating the Fed’s efforts.

“Stock prices already reflect some economic weakness, but they haven’t priced in the possibility of a recession,” says Liz Ann Sonders, Schwab’s chief investment strategist. “That means stocks could fall even more if growth deteriorates from here.”

“Investors aren’t likely to find much reward in risk-taking in the near term, and should remain focused on quality,” she adds. “Periodically rebalancing your portfolio is one way to take advantage of volatility while maintaining your strategic allocation.”