Wall Street’s worries eased on Tuesday, as investors took comfort from signs that a potential banking crisis appeared contained and bet on a more supportive environment for the economy going forward.
The S&P 500 rose 1.7 percent, lifted by a recovery in some bank stocks and bolstered by gains for heavyweights like Microsoft and Apple, which because of their size have a bigger impact on the performance of the broader index. More than three-quarters of the stocks in the index rose on Tuesday.
It’s common for stocks to bounce after a substantial fall, as investors try to gauge where markets will shake out once a period of stress passes. Nonetheless, the lift in the market was a welcome reprieve for investors who have been battered by a rapidly shifting economic backdrop that has led to whipsaw moves across stock and bond markets.
One dominant narrative taking shape posits that the crisis in the banking sector may lead to a more supportive environment for markets. The fallout from the collapse of Silicon Valley Bank and Signature Bank appears contained, and the episode may also give the Federal Reserve reason to forgo further interest rate increases. Higher interest rates raise costs for companies and were at the root of the stress in the banking sector, so fewer rate increases could help stocks to rebound.
“This is giving the Fed a reason to back off and adjust what they have done,” said Liz Ann Sonders, chief investment strategist at Charles Schwab. “Absent further deterioration in regional banks, I think the market is grasping at the Fed being given an excuse to pause and reassess.”
Fresh inflation data on Tuesday appeared to show just enough cooling to support the case for a more restrained Fed. Consumer Price Index data released before trading began showed inflation slowing slightly for the year through February, despite accelerating from the previous month.
Investors’ bets on whether the Fed will raise interest rates when it meets next week tilted back to expecting a quarter-point increase, after briefly flirting with no change, still markedly lower than where expectations stood a week ago. Investors now expect the central bank to raise interest rates to a peak of around 4.9 percent, down sharply from around 5.5 percent last week. That implies an expectation of one more quarter-point increase to come, down from as many as four such increases a week ago.
In the bond market, sentiment appeared less hopeful. The yield on the two-year Treasury note, which is sensitive to changes in interest rate expectations, rose by more than 0.2 percentage points — a big move for an asset that usually moves in tiny fractions of a percentage point. Tuesday’s rise followed a deep fall on Monday that echoed painful flash points such as the fall of Lehman Brothers in 2008.
Though the yield on the 10-year Treasury note still rose, it remained more anchored, suggesting fading hopes for economic growth over the long term.
“I think what is reflected in the bond market is an elevated risk of recession and a credit crunch, but for whatever reason it hasn’t reached stock investors yet,” Ms. Sonders said.
That dissonance makes predicting the path forward even harder, with some investors warning that financial markets could be headed for more days of volatile trading as investors make sense of the murky outlook.
“People are trying to gauge what the Fed is actually going to do given all the new information since the end of last week,” said Charlie Ripley, a senior investment strategist at Allianz Investment Management. “I think there is a tremendous amount of uncertainty. The Fed really has a dilemma on its hands here.”