US stock markets steadied on Tuesday despite disappointing inflation data that raised the prospect of more aggressive interest rate rises than investors had previously expected.

Wall Street’s benchmark S&P 500 index dropped as much as 1 per cent in early trading but ended the day flat, holding on to the gains made in strong trading on Monday.

The tech-heavy Nasdaq Composite rose 0.6 per cent after falling as much as 1.1 per cent in the morning.

The early falls followed the publication of data showing that US consumer prices rose 6.4 per cent year on year in January — a slight slowdown from the previous month but higher than economists had expected.

Annual core inflation, which strips out volatile food and energy prices, was also slightly above expectations at 5.6 per cent, down from 5.7 per cent in December. Prices rose 0.4 per cent month on month.

The high numbers renewed concerns that stubbornly high inflation would push the Federal Reserve to raise rates higher than the market expected, as chair Jay Powell warned last week.

“The Fed ended the year thinking the economy is slowing, inflation is coming steadily down, the labour market is cooling . . . January data threw all of that up in the air,” said Neil Shearing, chief economist at Capital Economics. “The labour market is red hot, the economy looks like it’s in a better place and inflation is coming down more slowly. Put it all together and if you’re Jay Powell, you’re suddenly sleeping less easily.”

The Fed increased its benchmark interest rate by a quarter of a percentage point in February to its highest level since September 2007 but warned “ongoing increases” would be needed to bring inflation under control.

Pricing in the futures market shows investors now expect rates to peak at around 5.27 per cent in July — up from 5.18 per cent in the same month before Tuesday’s inflation numbers — with at most a single interest rate cut during the remainder of the year. Earlier this month, they had been expecting a peak of about 5 per cent in May, with two interest rate cuts by the end of 2023.

The dollar followed the reverse trajectory to stocks, rallying in the immediate aftermath of the inflation data before giving up the gains. The dollar index, which tracks the US currency against a basket of peers, was down 0.1 per cent by Tuesday evening.

US government bonds also sold off, with the yield on the two-year Treasury rising 0.08 percentage points to 4.62 per cent after dipping earlier in the day. Yields rise when prices fall.

The 10-year Treasury yield rose 0.03 percentage points to 3.75 per cent.

In Asia, Hong Kong’s Hang Seng index fell 0.2 per cent and China’s CSI 300 was steady. Europe’s region-wide Stoxx 600 closed 0.2 per cent higher. London’s FTSE added less than 0.1 per cent. UK government bonds sold off sharply after the publication of the US inflation numbers, with the yield on the interest rate-sensitive two-year gilt rising 0.17 percentage points to 3.81 per cent, its highest level since late October.

The price for Brent crude, the international oil benchmark, fell 1.2 per cent to $85.58 a barrel.