Dow drops over 600 points, posts worst day of year after weak economic data, hawkish Fed remarks erase inflation cheer

What drove markets

U.S. economic data on Wednesday showed that wholesale prices slid 0.5% in December, the biggest decline since April 2020, when the coronavirus pandemic began, adding to evidence that inflation, though still high, has started to ease.

However, December retail sales dropped 1.1%, contracting for the second month in a row. Economists polled by the Wall Street Journal forecasted a decline of 1%. Retail sales are a big part of consumer spending and could offer clues about the strength of the economy.

In other U.S. economic data, the industrial production fell 0.7% in December in the biggest monthly decline since September 2021.

“Weak retail sales in December shows consumers are likely retrenching during a time of economic uncertainty. Declining consumer demand and periodic discounting for some goods pushed down control-group sales, the category that directly feeds into the official GDP estimate,” wrote Jeffrey Roach, Chief Economist for LPL Financial, in emailed comments. “The weak retail sales report does not change expectations that the Fed will likely increase rates by 0.25% during the upcoming meeting.”

Dryden Pence, chief investment officer at Pence Capital Management said the economy is seeing the continued effect of the rise in the federal funds rate. “September’s rise (in federal funds rate) is now beginning to show up and then you’ll begin to see a November’s rise show up over the next couple of months,” Pence told MarketWatch in a phone interview.

See: Wall Street’s ‘fear gauge’ flashes warning that stocks might be headed off a cliff

U.S. stocks traded modestly higher on Wednesday morning, later losing momentum to trade deep in the red as the positive start to the new year started to show signs of fading. The S&P 500 index is up 2.3% so far this year on hopes easing inflation will allow the Federal Reserve to be less aggressive in its monetary tightening cycle, making an economic hard landing less likely and thus supporting company earnings.

“The sentiment is still negative, and I think today is just about some profit-taking of a pretty strong few weeks to start the year, because you’ve got a nice little run,” said Jimmy Lee, founder and CEO of Wealth Consulting Group. “But I think the trend now is shifting from being so negative to getting closer to more neutral.”

Fed officials on Wednesday reiterated their determination to bring inflation down through more interest rate hikes. St. Louis Fed President James Bullard said that the Federal Reserve should not “stall” on raising its benchmark rates until they are above 5%.

Meanwhile, Loretta Mester, president of the Fed’s Bank of Cleveland, acknowledged that the economy is beginning to see “the kind of actions that we need to see,” but further rate hikes are still needed. Mester is among the more consistently hawkish members of the central bank’s 19-person interest-rate-setting committee.

“I think inflation is actually better than what the numbers show. I think they [interest rates] are going to come down faster than what the majority is predicting. And I think the Fed’s going to pause maybe at the end of the first quarter, and I think there’s a chance that they could even lower rates by the end of the year,” Lee told MarketWatch via phone.

The Federal Reserve’s latest Beige Book indicated that U.S. economic activity either slight increased or slight declined over the past six weeks. Only one regional bank – the New York Fed – reported a significant decline in activity. For the months ahead though, districts generally expect to see little growth in the wake of persistent inflation and high interest rates.

See: Businesses across the country expect ‘little growth in the months ahead,’ Fed’s Beige Book says

Investors are also focusing on the next batch of U.S. fourth-quarter corporate earnings reports. So far, with 33 of the S&P 500 having reported, 67% of those have beaten profit forecasts, according to Refinitiv. However, high profile disappointments, from the likes of Goldman Sachs on Tuesday, are making it difficult for the S&P 500 to move decisively above the 4,000 level.

Companies in focus

• United Airlines UAL, -4.57% finished 4.6% lower though it reported quarterly earnings that beat Wall Street’s estimates for the fourth quarter, saying it managed well the severe winter-weather disruptions in late December, and offered an optimistic view of the current quarter and guidance for full-year 2023.
• Microsoft Corp. MSFT, -1.89% shares went down 1.9% after reports said Tuesday that the company is preparing chop thousands of jobs in engineering and human resources.
• Moderna Inc. MRNA, +3.32% gained 3.3% after the drugmaker said an experimental vaccine significantly reduced the risk of a viral respiratory disease among older adults in a large clinical trial.
• J.B. Hunt Transport Services Inc. JBHT, +4.95%  shares rose nearly 5% after the company said it would pay out more than $8.8 million in “appreciation bonuses” to full-time drivers and full-time hourly maintenance and office workers.
• Coinbase Global Inc. COIN, -7.26% shares lost 7.3% Wednesday after that the company announced it will cease operations in Japan, citing unstable “market conditions” in a blog post.

—Jamie Chisholm contributed to this article.