Why Sept. 11 Could Be a Massive Day for the Stock Market

For months now, investors have been going back and forth about whether the Federal Open Market Committee (FOMC), which sets monetary policy for the Federal Reserve, will raise interest rates at its upcoming September meeting on Sept. 15-16.

The FOMC has been on pause all year, despite inflation remaining stubbornly above the Fed's 2% target. With just days remaining before the meeting, a critical data point is scheduled for release on Friday, Sept. 11, which is likely to make the FOMC's decision much easier.

It could be a massive day for the stock market.

Image source: Getty Images.

A hot inflation report could result in a rate hike

Since the Iran war began at the very end of February and led to surging oil and gas prices, the market and the FOMC have been worried about inflation. The market has gone from expecting the FOMC to cut interest rates this year to believing that a rate hike is only a matter of time to rein in inflation.

Stocks tend not to perform as well under rising interest rates because safer assets like bonds yield more when rates rise. The risk-free rate used in most discounted cash flow valuations also increases, raising the discount rate, more heavily discounting future cash flows, and lowering valuations.

While oil prices could come back down if the war ends, there is no clear end in sight.

Some data this year has suggested inflation is easing, and the FOMC has been willing to wait and see, but the committee has become more divided in recent meetings. At its July meeting, the FOMC held interest rates steady, but three members dissented in favor of a quarter-point hike.

On Sept. 11, the Consumer Price Index (CPI) reading for August will be released, essentially the last major data point the Fed will get to observe before its September meeting.

Since the FOMC's July meeting, more FOMC members have publicly said they would be willing to raise rates if inflation doesn't show continued progress back to 2%.

The FOMC has 19 total members, but only 12 vote, so if the CPI comes in higher than expected, particularly on core CPI, or perhaps even in line with economists' estimates, enough FOMC members could move to support a quarter-point hike.

The Federal Reserve Bank of Cleveland's Nowcasting tool expected the CPI to rise 0.36% in August, with core CPI rising 0.2%. A 6-6 tie from the FOMC would leave rates unchanged.

US Core Consumer Price Index YoY data by YCharts

There was bad news on the inflation front earlier this month when U.S. nonfarm payrolls added three times as many new workers as expected in August. While a positive for the economy, a strong labor market fuels consumer spending, which accounts for the majority of U.S. gross domestic product (GDP).

Based on the August jobs report, the likelihood of a quarter-point hike at the Fed's September meeting has gone from a coin toss to 58.4%, according to CME Group's FedWatch tool.

The market may finally discover the true intentions of Fed Chair Kevin Warsh

Kevin Warsh became the new Fed chair and, therefore, the new FOMC chair earlier this year. Ever since, investors have been trying to figure out whether Warsh is a hawk or a dove.

On several occasions, Warsh has come across as hawkish, noting that prices are too high and the Fed needs to rein in inflation. But Warsh has also said that he is not a fan of how the Fed currently measures inflation, and could prefer a gauge that would likely clock inflation lower than under the current methodology.

Additionally, Warsh has the difficult task of ensuring the Fed doesn't come across as political. A rate hike this month, just weeks before the midterm elections, is unlikely to be well received by President Donald Trump. But if inflation data comes in hotter-than-expected on Sept. 11, Warsh will likely have enough support from other FOMC members to move forward with a rate hike.

In this scenario, if Warsh votes in favor of hiking rates, it would silence critics, who believe the administration has too much influence over the Fed. If the FOMC leaves rates unchanged, despite a hot inflation report, that might draw some uncomfortable questions.

Of course, inflation data may be in line with estimates or below estimates, making it less likely the Fed hikes rates and sending the market higher. Either way, investors should not try to make near-term bets around the Sept. 11 inflation report. Not only is it impossible to predict, but you also don't know how the market will react.

Still, knowing that a big move could be coming, and the reasons behind it, will enable investors to panic less and make more rational investment decisions, even if that means doing nothing at all.

Bram Berkowitz has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends CME Group. The Motley Fool has a disclosure policy.