Explaining market volatility: Why did the stocks drop after interest rate hike?

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(NewsNation) — Stocks closed sharply lower on Wall Street as worries grow in markets that the higher interest rates the Federal Reserve is using in its fight against inflation will slow the economy.

The S&P 500 pulled back sharply, erasing a rally from a day earlier and marking its biggest loss in almost two years. The Dow also sank, while tech stocks fell the most, pulling the Nasdaq down.

Investors worry about whether the Federal Reserve, which raised its key interest rate by a half percentage point on Wednesday, can cool inflation without tipping the U.S. economy into recession. Traders were briefly encouraged by Fed Chair Jerome Powell’s comment that the Fed wasn’t considering even bigger increases.

World stocks followed Wall Street lower Friday as fears spread that U.S. interest rate hikes to fight inflation might stall economic growth and impact corporate profits.

“We’ve had a lot of Fed speakers come out and basically throw the spaghetti at the wall and say that rate hikes need to happen faster and happen now,” said Callie Cox, investment analyst at eToro. “So, it makes sense that investors are kind of reverting back to this place of fear that the Fed could do way more than they imagined to get policy to fight inflation.”

Higher interest rates lower the appeal of tech and growth stocks because higher rates put pressure on their earnings. Because of this, risky assets like stocks become less attractive and that causes people to pull their money put of the markets.

And while the market activity of the past few days has certainly caused concern, the drops we saw this week are nowhere near the worst the country has experienced. Back in 1929. the U.S. stock market saw the worst drop in history. Over a two-day period in October, the Dow fell close to 25%, acting as one of the catalysts for the Great Depression. For perspective, the Dow fell just over 3% on Thursday.

In 1987, the government announced that the U.S. had a larger trade deficit than investors were expecting. The Dow then fell 23%. In 2000, the dotcom bubble burst. The NASDAQ lost nearly a trillion dollars in just one month, which promoted the Federal Reserve to raise interest rates by a half percentage point. The Fed then didn’t raise interest rates, until this week.

In 2008, the housing market crash gave the Dow its largest single drop ever in a day period. Then on March 16, 2020 the Dow, the S&P 500 and Nasdaq all fell between 12% amid the start of the pandemic.

The focus now shifts to the U.S. Labor Department’s closely watched monthly employment report on Friday for clues on labor market strength and its impact on monetary policy.

The Associated Press and Reuters contributed to this report.

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