Nick Rummell

MANHATTAN (CN) — It was supposed to be a glimpse of light at the end of the tunnel, but a still-hot inflation report on Tuesday defied analyst predictions and sent investors into a tailspin.

The consumer price index (CPI), which the U.S. Bureau of Labor Statistics announced an hour before the opening bell, found prices gained another 0.1% in August — as opposed to the 0.1% drop in prices that many had forecast — with prices increasing by 8.3% over the last year.

Many had hoped the inflation report would be a beacon, but instead it was a wake-up call for many. Markets immediately plummeted at the opening bell, with the Dow Jones Industrial Average losing roughly 800 points in an hour. Things didn’t improve after investors had more time to digest the report, as losses only accelerated from that point on.

By the closing bell, the Dow closed down 1,276 points, a 3.9% fall for the day, with the S&P 500 and Nasdaq losing 177 points and 632 points — declining 4.3% and 5.1% — respectively.

Earlier in the week, economists had pegged their hopes to dropping gasoline prices helping to further ease inflation, and the CPI report reflected a 5% drop in energy prices, including the 10% decline in gasoline prices from July. However, price increases did not abate.

Food prices gained another 0.8% after increasing 1.1% in July; new vehicle prices are heading upward again after falling slightly in July, with a 0.8% increase; and core goods are up 0.5% after a 0.2% increase in July.

“The belief on the part of some that inflation figures are just going to collapse from here is just not reality,” said Peter Boockvar, chief investment officer at Bleakley Financial Group. “Inflation is generally peaking for sure and for many things will continue to fall, but the pace at which it will is going to be gradual.”

The idea that the Federal Reserve will back away from another interest rate hike next week is all but dead, and many analysts believe a 75-basis-point rate hike is still in the cards. The Fed under Chair Jerome Powell already has made a name for itself as hawkish on rates, with two consecutive 0.75% rate hikes in June and July.

Many investors had hoped the central bank would begin to ease its rate hikes to 0.5% or 0.25%. However, comments at the end of August by Powell tempered some of those hopes.

“Just like Fed Chair Powell destroyed the “Fed pivot” hopes a few Fridays ago, today’s CPI has destroyed, for now, the ‘declining inflation’ narrative that helped stocks rally over the past week,” wrote Tom Essaye of the Sevens Report.

Others are even more negative in their assessment of the Fed’s reaction to the inflation report. “The Fed has the worst problem in the world — it’s a political problem, not an economic problem — and the only cure for the current crisis is one that is politically infeasible,” said Chris Zaccarelli, chief investment officer at the Independent Advisor Alliance

Zaccarelli noted that if and when the Fed’s rate hikes cause spiking unemployment they will once again face harsh criticism. “Not only are they going to end up causing a recession, but it is going to be a bad one,” he said.

Economists likely had been optimistic given the Federal Reserve Bank of New York’s inflation predictions on Monday. Those expectations forecast that price increases would slow, with median inflation expectations dropping from 3.2% to 2.8%. The report also showed a predicted home price growth drop from 3.5% to 2.1%, the lowest point for that segment of the survey since July 2020.

The median one-year inflation expectations also had dipped, according to the New York Fed, from 6.2% to 5.7%, as did median home price expectations.