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U.S. stocks slumped on Wednesday after the U.S. Federal Reserve held key interest rates unchanged as widely expected, and revised economic projections higher with warnings that the battle against inflation was far from over.

The TSX ended nearly unchanged, but both U.S. and Canadian bond yields rose sharply. U.S. two-year yields reached 5.152%, the highest since 2006, and the Canadian two-year bond yield rose more than 10 basis points to above 5%, its highest since 2001. The Canadian five-year bond yield - influential on fixed mortgage rates - climbed to 16-year highs for the second day in a row.

As they did in June, Fed policymakers at the median still see the central bank’s benchmark overnight interest rate peaking this year in the 5.50% to 5.75% range, just a quarter of a percentage point above the current range.

But from there the Fed’s updated quarterly projections show rates falling only half a percentage point in 2024 compared to the full percentage point of cuts anticipated at the meeting in June.

“The decrease in the number of cuts in 2024 is one of the more telling changes this month,” said Andrew Patterson, senior economist at Vanguard. “It means that the Fed is increasingly confident that they can pull off a soft landing and that the economy can withstand higher rates for longer.”

Fed funds futures traders are still pricing in only a partial chance of a further rate hike, with a 29% probability in November and 43% chance by December, according to the CME Group’s FedWatch Tool.

Analysts this week said that higher oil prices have helped to drive yields higher on concerns that inflation will remain elevated.

Fed Chairman Jerome Powell, however, disagreed on Wednesday, saying instead that higher yields reflect market views of better growth and the impact of higher Treasury bond supply.

Since the Fed embarked on its current tightening cycle in March, core inflation has cooled. But its slow descent toward the central bank’s 2% target has been slow and uneven. The SEP forecasts inflation to drop to 3.3% by year-end.

Powell tempered rosier economic projections with a warning that inflation has a long way to go before reaching that target.

“The Fed didn’t really rock the boat,” Detrick said. “They acknowledged the strength in the economy, which also lowered the number of cuts that were expected next year, implying higher for longer is likely the path they will continue to take.”

The Dow Jones Industrial Average fell 76.85 points, or 0.22%, to 34,440.88, the S&P 500 lost 41.75 points, or 0.94%, to 4,402.2 and the Nasdaq Composite dropped 209.06 points, or 1.53%, to 13,469.13.

Among the 11 major sectors of the S&P 500, interest rate sensitive communication services and technology suffered the largest percentage losses.

Marketing automation company Klaviyo advanced 9.2% in its debut on the New York Stock Exchange, the third recent initial public offering in recent days, following Arm Holdings and Maplebear Inc.

“It shows confidence is coming back to even have the large IPOS,” Detrick said. “It’s a sign that things are getting closer to normal which is something that is necessary at this stage of the business cycle.”

Canada’s main stock index gave back its earlier gains to post its lowest closing level in more than a week. The S&P/TSX composite index ended down 4.2 points, at 20,214.69, its lowest closing level since Sept. 11.

The energy sector, which accounts for 20% of the TSX’s weighting, fell 1.4% as oil settled 1% lower at $90.28 a barrel.

“Crude prices are dropping as the Fed remains determined to keep the inflation fight going into the year-end,” Edward Moya, senior market analyst at OANDA, said in a note.

“This was a hawkish skip (on rate hikes) and the risks that the Fed will break the economy are growing.”

The Bank of Canada has also kept the door open to further tightening. It wanted to send the message that interest rates would not be coming down soon when it left them at a 22-year high after a policy meeting on Sept. 6, minutes showed Wednesday.

Data on Tuesday showed Canada’s annual inflation rate jumping to 4.0% in August from 3.3% in July.

Implied interest rate probabilities in credit markets now suggest almost a 50% chance the Bank of Canada will hike interest rates again at its next meeting in October. That’s up from about 40% on Tuesday and 20% prior to this week’s inflation report.

Technology was also a drag on Wednesday for the TSX, falling 0.8%. But materials, which includes precious and base metals miners and fertilizer companies, added 0.7% and health care ended 2.5% higher.

Helping the health-care sector, shares of Bausch Health Companies rallied 8.1%, bouncing back from the previous session’s sharp decline, after brokerage Jefferies upgraded the stock.

Declining issues outnumbered advancing ones on the NYSE by a 1.46-to-1 ratio; on Nasdaq, a 1.90-to-1 ratio favored decliners. The S&P 500 posted 14 new 52-week highs and 6 new lows; the Nasdaq Composite recorded 39 new highs and 246 new lows. Volume on U.S. exchanges was 9.73 billion shares, compared with the 10.07 billion average for the full session over the last 20 trading days.

Reuters, Globe staff

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