January’s Consumer Price Index (CPI) contained some surprising news (and not in a good way). Last month, the index rose 0.5% compared to December, which was a pretty notable lift.
Not shockingly, that news sent stock values tumbling — and may have left investors reeling. And so if you’re feeling spooked as an investor right now, you’re no doubt in good company. But January’s inflation report — and the possibility of others like it — shouldn’t deter you from continuing to keep money in the stock market by any means.
Why stocks plummeted on the heels of rising inflation
Inflation has been a major problem for cash-strapped consumers. But it’s also a big problem for the Federal Reserve.
Image source: Getty Images.
The central bank is eager to bring inflation levels back down to the 2% range on an annual basis. As of January, the CPI was up 6.4% year over year.
To calm inflation down, the Fed may need to resort to aggressive interest rate hikes this year, as it did in 2022. But that could be enough to fuel a major pullback in consumer spending.
To be clear, the Fed is not in charge of setting consumer borrowing rates directly, so the amount of interest you’re paying on your credit card or auto loan isn’t in the Fed’s hands. Rather, the central bank oversees the federal funds rate, which is what banks charge each other for short-term borrowing purposes.
But when the Fed raises its benchmark interest rate, it tends to indirectly raise the cost of consumer borrowing. And if that keeps happening, we could see consumer spending decline in a very big way in the course of 2023. That could not only fuel a broad recession but also impact a wide range of market sectors, from hospitality to retail.
That’s precisely what investors are worried about. And it explains why stocks took a dive following January’s inflation news.
But one thing to realize is that harsh reactions like that are par for the course with the stock market. Not only does the market tend to react to negative economic news, but it can sometimes take a dip following seemingly good news, like a positive jobs report (the logic there being that low unemployment is an indication that inflation could be here to stay). So as an investor, the best thing you can do for yourself is to learn to take those reactions in stride — and stick to your personal goals.
Don’t let yourself get thrown
If you’re intent on investing to fund your retirement or meet future goals, January’s inflation report — and the stock market’s reaction to it — shouldn’t change anything. All told, the key to making money in the stock market is to take a long-term approach and hold on to quality assets for decades so they’re able to gain value over time.
If you stick to that mindset, temporary blips won’t have to throw you for a loop. And given the mess of inflation we’re grappling with now, it’s fair to assume that we could see more volatility related to it as 2023 chugs along.