Wall Street climbed Wednesday to its best level since the summer after the Federal Reserve announced its latest interest rate increase and said it's finally seeing improvements in inflation.
The S&P 500 rallied back from an early 1% loss to rise 1% after Fed Chair Jerome Powell said the economy is on the path toward getting inflation lower. The Dow Jones Industrial Average erased a drop of 500 points to gain 6 points on the day, while the Nasdaq composite jumped 2%.
As expected, the Fed raised its benchmark interest rate by a quarter point to its highest level since late 2007. It's the smallest such increase in the Fed's blizzard of rate increases since March.
What's more important for markets is where interest rates are heading next.
Much of Wall Street is hoping that cooling inflation since the summertime means the Fed will raise rates just a bit more, before pausing, and then possibly cutting rates toward the end of the year. Rate cuts can ease pressure on the economy and juice investment prices.
Powell did reiterate Wednesday that "ongoing increases" in interest rates will be needed to bring down inflation to the Fed's target level. And he said it was still too early to declare victory over inflation.
But Powell also said: "We can now say, I think for the first time, that the disinflationary process has started." That got Wall Street thinking about a future with no more rate increases.
Higher interest rates try to snuff out inflation by slowing the economy and dragging down prices for stocks and other investments. The Fed has already lifted its key overnight rate to its highest level since 2007, at a range of 4.50% to 4.75%, up from virtually zero early last year.
At stake is the economy, which many investors see likely heading down one of two paths: either a relatively short and shallow recession or a much deeper and more painful one. Building hopes for the former helped stocks rally through January to a strong start of the year.
Powell indicated he's on the more optimistic side.
"My base case is that the economy can return to 2% inflation without a really significant downturn or really big increase in unemployment," he said.
He also said he did not foresee any rate cuts this year.
Others in the market are not as optimistic. A third pathway for the economy is also possible, said Rich Weiss, senior vice president at American Century Investments: one that happened during the 1970s, when inflation reignited after the Fed let up on interest rates too soon.
"We're headed into a recession one way or the other, whether the Fed eases up on the brakes or not," Weiss said. "So you might as well kill inflation while you're doing it. I think it's nonsensical to think the Fed is going to magically take their foot off at exactly the right time and slide into a short and shallow downturn and the stock market will come through unscathed."
One area influencing expectations for the Fed is the job market, which has remained resilient. While strength there helps workers, a worry is that it could lead to wage gains that fuel inflation.
Reports Wednesday gave a mixed picture on hiring. Private payrolls rose by 106,000 in January, according to ADP. That's a slowdown from a month earlier and was below economists' expectations.
But a separate report from the U.S. government indicated more strength. That report said the number of job openings increased to 11 million in December, which was better than expected.
Treasury yields fell as Powell spoke Wednesday afternoon, an indication of expectations for an easier Fed. The two-year yield, which tends to track expectations for the Fed, fell to 4.11% from 4.21% late Tuesday. The 10-year yield, which helps set rates for mortgages and other important loans, fell to 3.42% from 3.51% late Tuesday.
A lackluster earnings reporting season also continues on Wall Street, with more mixed profit reports arriving from big U.S. companies.
Electronic Arts Inc. tumbled 9.3% after it gave forecasts for upcoming results that fell short of Wall Street's expectations.
On the winning side was Advanced Micro Devices Inc., which rose 12.6% even though its profit tumbled 98% in the fourth quarter from a year earlier. Its results were better than analysts expected.
All told, the S&P 500 rose 42.61 to 4,119.21, its highest close since August. The Dow gained 6.92, or less than 0.1%, to 34,092.96. The Nasdaq jumped 231.77 to 11,816.32.
Information for this report was contributed by Joe McDonald, Matt Ott and Alex Veiga of The Associated Press.