S&P 500 tumbled over 2% Friday, its steepest drop since October, as investors bet the Federal Reserve will keep rates high to combat inflation. The slide ended nine weeks of gains, erasing $2.1 trillion in market value. Strong job numbers fueled expectations of a rate hike, with the two-year Treasury yield jumping 0.1 percentage points—the largest gain in a year.

Investors now see the Fed prioritizing inflation over job market risks, with Goldman Sachs’ Lindsay Rosner stating, "We’ve gained confidence the Fed doesn’t worry about labor markets." Markets price in a 0.25% rate hike by December, reversing earlier hopes for cuts under new Fed Chair Kevin Warsh. Rising borrowing costs are squeezing corporate debt and mortgage rates, amplifying market stress.

Trump hedged on rates, saying he’d leave decisions to Warsh but wouldn’t oppose cuts. Analysts like Seema Shah warn rate hikes are likely if job data persists. This marks a sharp pivot from pre-war optimism, where cuts were expected. Higher rates now threaten to dampen AI infrastructure investments and consumer spending.

The Fed’s policy shift underscores a cooling economy narrative. With inflation sticky and job growth robust, officials face a tough path. As Shah notes, pushing for cuts now would ignore the data—making 2026 a pivotal year for markets.

Primary keyword: Fed rate hike

Secondary keywords: S&P 500 drop, Treasury yield, corporate debt, AI infrastructure