The NYSE floor on a recent day. Rising bond yields make investors wonder when treasury will be more attractive than equities.
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After a long increase in long-term Treasury yields, the 30-year-old has just climbed over 2% for the first time since the Covid-19 blow. Investors are wondering when the broader trend of rising bond yields will affect the stock market.
The central concern is that once Treasury yields increase, investors will want to buy safe bonds instead of high-yield shares or debt. But it is unclear when this will happen, and the 30-year bond poses an additional risk of loss as yields continue to rise. When it comes to the 10-year grade, a more popular benchmark, The consensus on Wall Street is hard to come by: strategists’ forecasts say that 10-year Treasury yields may need to increase by only 1.75%, or up to 5%, to make them more attractive than those riskier alternatives.
Long-term Treasury yields have risen steadily since late August and faster since November 9, when
Pfizer
and BioNTech announced an effective Covid-19 vaccine. The 30-year yield was about 2% months, after violating this level in the morning transactions – from 1.6% before the vaccine. The 10-year baseline yield also increased, rising to 1.2% months from 0.8% before the vaccine.
Long-term yields retreated from their highs in the morning to Monday afternoon amid concerns about the distribution of the Covid-19 vaccine and the pace of global economic reopening, with a 10-year yield from a baseline (hundreds of percentage point) and 30- the yield of the year decreased by three basis points.
But expectations remain that yields will continue to rise in the coming weeks and months. And a key question is how high the yields must be in order to penetrate stock market yields. Several Wall Street strategists have addressed this puzzle in recent notes.
Nearly 70% of S&P 500 companies pay higher than the 10-year mark, a team led by equity strategist Savita Subramanian wrote in a recent note. This proportion would fall to 40% if companies maintain their payments at current levels and the Treasury yield increases to 1.75% by the end of this year, they found.
This could begin to undermine the attractiveness of stocks as a revenue game; today, the total dividend yield on the S&P 500 is 1.5%, higher than the 10-year Treasury payment. This has helped to offset concerns about assessments that are higher than historical averages.
However, the picture looks much better for stocks from the perspective of total profitability. The S&P 500’s default long-term yield is about 3%, the bank’s strategies wrote.
Wall Street strategists do not expect the 10-year rating to be able to challenge this return soon. In a January perspective,
Bank of America‘s
Interest rates have predicted that 3% will be the peak of the benchmark yield during this expansion, which means that yields will not reach these levels until the Fed begins to raise interest rates. And, according to some of the bank’s valuation models, all the others are equal, the shares will look cheap compared to the treasuries until the yields increase to 5%.
More importantly, a 3% return on the S&P 500 will continue to exceed a key market indicator of inflation expectations over the next decade. This indicator, called the equilibrium inflation rate, has been driven higher by improving growth expectations as the US recovers from the Covid-19 crisis. It reached 2.2% on Monday, the highest level since 2014.
In contrast, the 10-year treasury yield remains below market inflation forecasts for the period and is expected to remain so until at least the end of this year. Even higher inflation-adjusted yields may not affect equities, credit strategist Jonathan Golub wrote in a note on Feb. 8, as rising stocks from stronger economic growth should outpace relative improvement. of the bond market yield.
In another positive point for equities, the increase in returns does not negatively affect the balance sheets of US companies with large capitalization. The effective yield of the ICE BofA Corporate Index, an indicator of current loan costs for high-rated companies, remains at just 1.9% for a maturity of almost 12 years. And last year’s record flood of fixed-rate loans means companies won’t have to refinance their debt for years.
There is a way in which rising rates negatively affect at least some stocks: investors are less willing to wait for profit growth,
Goldman Sachs
Strategies wrote in a February 7 note. Shares that are sensitive to economic growth and “value” stocks that performed poorly during the pandemic outperformed as 10-year yields rose above 1%, they found, as investors discount future cash flows at a higher rate. big. The Russell 2000 Value (IWN) ETF has risen 14% so far this year.
Goldman strategists wrote that a rapid jump in Treasury yields would be dangerous for the stock market as a whole. But the bank estimated that real damage would require yields to increase by 36 basis points in a month. This seems unlikely, given that it took about three months to climb that far during the latest attention-grabbing move.
Of course, increasing returns will likely require some changes in the way money managers who allocate cash in different markets make decisions, say strategists and investors. The DE Shaw hedge fund recently discovered that long-term bonds should serve as better hedging against stock market declines as yields rise.
So bonds will probably become more attractive in the coming months. But it is not clear that such a change will be enough to undermine equities, especially since long-term bond yields are most at risk due to rising yields. So while the Treasury might offer a better alternative to stocks one day, this process could take longer than investors would think.
Write to Alexandra Scaggs at [email protected]