Inflation, as measured by the consumer price index (CPI), rose 0.3% in January, the Bureau of Labor Statistics reported on Tuesday. That left year-over-year inflation at 3.1% last month. This is a decline from the 3.4% seen in December, but crucially, it was ahead of economists’ forecast for 2.9%. That 0.2 percentage point difference might seem small, but it certainly wasn’t the figure investors—or more important, the Federal Reserve—were looking for. Just look at the market reaction.

The Dow Jones industrial average had its worst day since March 2023 after the CPI report, sinking 1.4%, or over 500 points. And both the S&P 500 and Nasdaq Composite followed suit, dropping 1.4% and 1.8%, respectively.

Mohamed El-Erian, a veteran economist and the president of Queens’ College, University of Cambridge, called the inflation report a “wake-up call” for investors who were expecting aggressive interest rate cuts starting next month. “We’re not going to get more than three cuts this year. And we’re probably not going to start this cutting cycle until June,” he told CNBC Wednesday. “The market had gotten carried away, without much critical thinking, about a very soft landing, [with] many cuts, starting early.”

Chris Zaccarelli, chief investment officer at Independent Advisor Alliance, warned that the hot inflation report raises the odds that the Fed will be forced to hike interest rates again to ensure inflation has truly been tamed. That, of course, would be terrible for stocks, as the market had priced in cuts this year. Beyond the market’s expectations, higher interest rates mean higher borrowing costs for businesses and lower earnings for public companies. So when rates rise, the present value of stocks’ future earnings—which, in theory, is what stock market valuations are based on—tends to decline.

Still, Zaccarelli cautioned that we shouldn’t read too much into one month’s inflation data. The latest figures could simply be a “bump in the road” for stocks and the economy. “But if we see a new pattern of inflation stalling out at current levels (or worse, increasing from here) then the stock market has further to fall,” he warned in emailed comments.

Strong earnings are driving a rebound

A hotter-than-expected inflation report may keep the Fed from cutting interest rates this March, something many investors had seen as highly unlikely just months ago, but the stock market seemed to brush off that prospect on Wednesday. All three major indices were in the green as of mid-Monday, and relatively strong earnings could be to blame.

Several major companies have turned in better-than-expected earnings over the past few weeks. The chip designer Arm saw its stock soar 48% in a single day last week after projecting rising earnings and 38% revenue growth for the first quarter amid the AI boom. “We are seeing the demand for Arm technology to enable AI everywhere,” the company’s management wrote in its shareholder letter last Thursday. Some analysts have questioned Arm’s meteoric rise, arguing that the company’s fundamentals just don’t match its sky-high valuation. But Arm was far from the only company that posted impressive earnings. Uber shares also surged on Wednesday after the rideshare giant completed its first profitable year, forecasted strong bookings growth, and implemented a $7 billion share-buyback program.

On Monday, Bank of America Research analysts also noted that after 79% of the S&P 500’s constituents posted fourth-quarter earnings, the average earnings per share figure was 7% above Wall Street’s consensus forecasts. The Bank of America team added that they expect “continued acceleration” of earnings through the first half of this year as well, arguing current earnings per share forecasts are “too conservative.”