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Wall Street Week Ahead: Rising U.S. bond yields pose new threat to sky-high stocks

EconomyFeb 19, 2021 08:45PM ET
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© Reuters. The Wall St. sign is seen outside the NYSE in New York

By Lewis Krauskopf

NEW YORK (Reuters) - The U.S. stock market has so far digested a surge in Treasury yields, but some investors are worried that a continued ascent could prove more problematic.

The yield on the benchmark 10-year Treasury note, which rises when bond prices fall, climbed to a one year high of 1.36% this week, fueled by expectations that progress in the countrywide vaccination program and further fiscal stimulus would further spur economic growth.

So far, stocks have responded with little more than a wobble. But some investors worry that a continued rise in yields on Treasuries -- which are backed by the U.S. government -- could dim the allure of comparatively riskier investments such as equities and weigh on the S&P 500 that has risen about 75% since last March.

"When ... government bond yields rise, all asset prices should reprice lower -- that’s the theory," said Eric Freedman, chief investment officer at U.S. Bank Wealth Management, adding that he does not believe yields have yet risen far enough to provide an competitive alternative to stocks.

The rise in yields comes as the S&P 500 hovers near all-time highs at the end of a fourth-quarter earnings season that has seen companies overall report earnings 17.2% above expectations, according to Refinitiv data. Earnings will continue to be in focus next week along with data tracking the economic recovery and developments with President Joe Biden's proposed $1.9 trillion coronavirus relief package.

Despite solid corporate results, worried investors can point to any number of signs -- including blistering rallies in Bitcoin and Tesla (NASDAQ:TSLA) shares and the proliferation of special purpose acquisition companies (SPACs) -- that ultra-easy monetary policy and fiscal stimulus have fueled an excessive appetite for risk that could be curbed if yields start to rise.

The latest fund manager survey by BofA Global Research showed a record in the net percentage of investors taking higher-than-normal risk, cash allocations at their lowest level since March 2013 and allocations to stocks and commodities at their highest point in around a decade.

Citi strategists said in a report this week that a 10% pullback "seems very plausible," noting that "if rising bond yields drag down some mega-cap IT growth names... that will impact the broad index as a result of the over-representation of such stocks."

Analysts at Nomura, meanwhile, said earlier this week that a move above 1.5% on the 10-year could spark an 8% drop in stocks.

Low yields and interest rates support equities in several ways, such as reducing debt and borrowing costs, making stocks look relatively attractive to bonds and helping increase the value of companies' future cash flows.

At 22.2 times its forward price-to-earnings ratio, the S&P 500's valuation is well above its long-term average of 15.3, according to Refinitiv Datastream, though several investors said stocks still look relatively inexpensive compared to bonds.

Plenty of investors are sanguine about the move, noting that yields appear to be rising due to expectations of an improving economy.

J. Bryant Evans, a portfolio manager at Cozad Asset Management, recently added bank and mortgage company stocks to a high dividend portfolio this week to take advantage of the improving economic outlook and rising rate environment.

More broadly, he was targeting a 3% yield on the 10-year for when bonds might start competing more aggressively with stocks.

"For my clients, I would urge some balance and wait a little bit before moving to fixed income because I think interest rates are still extremely low historically speaking," Evans said.

Paul Nolte, portfolio manager at Kingsview Investment Management, is watching whether rising yields eventually come with a "change in tone at the Fed" that suggest the central bank will start tapering its bond purchases as it reins in its stimulus, which could shake the market.

Still, he isn't pulling back on his equity exposure for now because of the recent rise in yields, convinced a strengthening economy will continue buoying stocks, particularly those that should shine in a recovery such as financials and other value shares.

The steeper yield curve, Nolte said, is "the bond market’s way of telling everybody that the economy is recovering and getting healthy."

Wall Street Week Ahead: Rising U.S. bond yields pose new threat to sky-high stocks
 

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Comments (4)
William Smith
William Smith Feb 21, 2021 10:12PM ET
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Market will tank once Biden's tax hikes are passed.
Shane Gg
Shane Gg Feb 20, 2021 2:42AM ET
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I started shifting to commodity ETFs, banking equities and covered call ETNs over a month ago. Even if they take a hit,  they'll likely rebound in time and most will pay dividends while that rebound is in the works.
TL Chan
TL Chan Feb 20, 2021 12:02AM ET
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If you look at the stock trading activity yesterday, you will find out a new phenomenon ! When the US TR is at stunning height of 1.3, most sensible fund managers and retail investors would be a sideline watcher. The average retailers are drawn into the market because the social group are bidding up different target stocks. If you look at the forensic accounting report of TTD, no way a reasonable fund manager will buy the stock, which dips when the earning result is released in after hour. Only when the social action group latter bid it up, it risen over 900. They also move from one stock to another stock, when they move, they draw down the price of the victim stock, causing many investors losing money and not knowing why, for example, TWLO, and etc. TTD dropped more than 100 points before for absolutely no found reason! Don't be a victim of short term bubble created by those social gangsters mop!
Michael Coker
Michael Coker Feb 20, 2021 12:02AM ET
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lmao 🤣 that's one way to put it. How about this though. we do not have the means nor the resources that many investors have so if we choose to band together that's our paragative. many make money, many lose money but thats the name of the game right? I would guess you've been on the winning side for a long time and now your starting to see what happens when we band together. Get comfortable bc were not going anywhere!
Casino Crypt
CasinoCrypt Feb 19, 2021 6:53PM ET
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Experts studied the structure of the titanic and certified it . Sales for a trip were booming. They didn't want to listen to the expert who warned about  icebergs in the North Atlantic.  In the same way the markets are sailing into an economic iceberg as they focus on the ' steep'  surge of power caused by the world economic engines in the middle of a pandemic .
Michael Coker
Michael Coker Feb 19, 2021 6:53PM ET
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you've read Power X haha
 
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