Twelve days from now, the Federal Reserve will meet again, and expectations for the central bank's next moves are firming up. The consensus among investors: Persistently hot inflation means the Fed will need to continue with its string of aggressive interest rate hikes, which is unprecedented in the modern era.
What's happening: Markets see a 99% probability that rates will rise by another three-quarters of a percentage point, reaching a range of 3.75% to 4%.
A hike of that magnitude is now "a given," Quincy Krosby, chief global strategist for LPL Financial, told clients on Wednesday. "Concern is now focused on December, and whether the Fed is prepared to transition to smaller rate hikes."
That's up from a 60% probability one month ago. So what changed?
Inflation, mainly. The US Consumer Price Index rose 8.2% in the year to September after rising 8.3% annually in August. While CPI peaked at 9.1% in June, that reading was still uncomfortably elevated and higher than economists had expected.
The 6.6% annual uptick in shelter costs was of particular concern. It takes longer for housing expenses to come back down than some other categories, since renters tend to sign leases for 12-month periods. The monthly rise in core services costs (excluding energy) was the largest gain in three decades.
The data underscored the need for the Federal Reserve to stay tough — while a strong jobs report for September will deliver confidence the central bank can do so without causing undue harm to the US economy.
Fed officials have said as much. In an interview with Reuters on Friday, St. Louis Fed President James Bullard said inflation had become "pernicious," which means that "frontloading" larger rate hikes is logical.
The market impact: The S&P 500 kicked off the week with a 3.8% rally before dropping 0.7% on Wednesday. It's still plodding along in a bear market, about 23% below its January peak. So long as the Fed signals its intention to keep the pressure on, boosting the odds of a US recession, volatility is expected to persist.
Even relatively solid corporate earnings may not be sufficient to change the direction.
"So far, the results are decent, but they're being compared to consensus estimates that have been persistently lowered since early summer," noted strategists at Charles Schwab.
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