Potential Federal Reserve rate hikes starting this week could spur a correction in the S&P 500 as reduced corporate margins hurt profit outlooks and markets brace for a tightening cycle, according to Macro Risk Advisors LLC.

The S&P 500 has dropped nearly 1% so far in September, historically its weakest month, amid concerns over elevated energy costs and recent inflation data that has driven U.S. 10-year Treasury yields above 5% for the first time since 2023. That view has prompted traders to almost fully price in a quarter point rate hike by Fed Chairman Kevin Warsh on Wednesday, up from about 60% odds a week ago.

A rate hike on Wednesday is likely to lead to more pain, Dean Curnutt, chief executive officer and founder of Macro Risk Advisors, said.

“We expect an 8-10% pullback in S&P with a potential second leg in December,” he wrote in a Monday note to clients. Rate hikes will “compress margins in companies that cannot pass costs through” as well as deliver a volatility shock into a market that is not positioned for it, he said.

Curnutt said the setup is akin to what investors saw in 2018, when the S&P 500 peaked in September and then plunged 10% over the course of October and November. That year, Curnutt warned, “The Santa Claus rally did not come” and the market took another leg lower in December, eventually dropping almost 20% from its peak.

Given the history, “a defensive posture is the correct approach,” he said. Similar to 2018, he is expecting the market to take another leg lower in December in response to multiple Fed hikes “into a K-shaped, low-churn economy.”

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