The S&P 500 (^GSPC +0.58%) has advanced 8% year to date, and the benchmark index currently trades near its record high. However, investors recently got some bad news about President Trump’s economy. Consumer sentiment hit a record low in May, after inflation accelerated to a three-year high in April.
In particular, history says the resurgence in inflation could create a domino effect that sinks the stock market. Here are the important details.
President Donald J. Trump delivers his State of the Union address to Congress. Image source: Official White House Photo.
The Consumer Sentiment Index just hit a record low
The University of Michigan conducts a monthly survey of consumers that covers three broad areas: personal finances, business conditions, and buying conditions. Survey participants answer questions about the current economic environment and their expectations about the future. Their answers are consolidated into a single number that measures consumer sentiment.
The Michigan Consumer Sentiment Index (CSI) dropped to 48.2 in May, down from 49.8 in April. That’s the lowest score on record since surveys began in 1952. About one-third of survey participants mentioned high gasoline prices and tariffs as reasons for their gloomy outlook.
In fact, concerns about affordability have been a defining theme of Trump’s presidency. The Michigan CSI has averaged 56.2 throughout his second term. Not only is that much worse than the average of 93.2 during his first term, but it’s also the lowest score under any U.S. president since the University of Michigan began collecting data seven decades ago.
Extremely low consumer sentiment is an ominous sign for investors because consumer spending accounts for about two-thirds of GDP, which makes it the primary engine of economic growth. Nervous consumers may spend money more cautiously than confident consumers, which could put downward pressure on corporate earnings and stock prices.
Inflation just accelerated to its highest level in three years
President Trump’s decision to attack Iran in late February has resulted in the most severe oil supply disruption in history. The war has not only stopped ships from crossing the Strait of Hormuz, a waterway in the Persian Gulf that provides transit for 20% of global oil, but it has also damaged oil infrastructure across the Middle East.
The Iran conflict quickly drove U.S. gasoline prices to a multiyear high, but price increases are now diffusing through the economy by raising manufacturing and transportation costs. CPI inflation accelerated to 3.8% in April 2026, the highest reading since May 2023. Worse yet, inflationary pressures may persist for months even in the best-case scenario.
“If the Strait of Hormuz opens today, it will still take months for the market to rebalance,” Saudi Aramco CEO Amin Nasser recently told investors. “And if its opening is delayed by a few more weeks, then normalization will last into 2027.”
High inflation is a warning sign for investors because it could force the Federal Reserve to raise interest rates. That would be a particularly unwelcome development, because traders entered the year expecting rates to drop by at least a half percentage point in 2026. But the market now expects a quarter-point increase in the next year, per CME Group‘s FedWatch tool.
The domino effect that could sink the stock market
Higher interest rates hurt the stock market through a domino effect. “They raise borrowing costs for companies, which can limit investment, slow expansion plans, and reduce profit growth,” according to U.S. Bancorp. “They can also weaken demand for interest-sensitive purchases, such as homes and cars and other large items that often require financing.”
Beyond that, higher interest rates make bonds more attractive, which tends to pull money away from the stock market. Indeed, the Federal Reserve has initiated four rate-increase cycles since 1999, and the S&P 500 has always declined over the next three months. The average drawdown was 7%, but losses ranged from 1% to 17%.
The stock market is particularly vulnerable right now because the S&P 500 trades at 21 times forward earnings, a premium to the five-year average of 19.9 times forward earnings. And factored into that valuation is the expectation that S&P 500 earnings will increase 21% in 2026, the fastest growth since 2021.
In short, stocks are expensive even when accounting for Wall Street’s optimistic earnings forecasts. If low consumer sentiment and accelerating inflation become major economic headwinds, S&P 500 companies could miss earnings estimates, setting the stock market up for a steep decline. Investors should keep that in mind as they decide which stocks to buy in the current environment.
