Bruised market eyes Treasury yields to gauge stocks’ path

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NEW YORK (Businesshala) – Investors are focusing on Treasury yields as a key factor in determining how the stock will fare for the rest of the year, after a month in which equities posted their biggest gains since the coronavirus pandemic began. Loss recorded.

FILE PHOTO: The front of the New York Stock Exchange (NYSE) is seen in New York, US, February 16, 2021. Businesshala/Brendan McDermid/File photo

The S&P 500 index posted its biggest monthly decline since March 2020 in September, while pulling down 5% from its all-time high for the first time this year.

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Stocks rose to a three-month high as yields on the US Treasury rose, raising concerns in an already volatile market from a bad fight over the US debt limit, the fate of a massive infrastructure spending bill and heavily indebted Chinese. Property developer China’s recession Evergrande Group. The S&P 500 is still up 16% this year.

“Investors are looking for a catalyst … and the catalyst they are currently focusing on is the direction of interest rates,” said Sam Stovall, chief investment strategist at CFRA.

Yields, which are in contrast to bond prices, have been rebounding from historically low levels, and their recent climb is widely seen as a sign of economic strength.

His rally follows a sharp tilt by the Federal Reserve at its monetary policy meeting last week. The central bank said it could begin reducing its $120 billion-a-month government bond purchase program as early as November and potentially start raising rates next year, before some are expecting it. Were.

Yet yield increases, such as the 27 basis points move logged by the 10-year benchmark note after the Fed meeting, could dampen the attractiveness of stocks. The 10-year yield was up around 1.47% in the past, narrowing the week-end gains.

Stocks and bonds may take cues from developments in Washington over the coming week, where lawmakers continue to debate an infrastructure spending package as well as next Friday’s monthly US jobs report.

Among the indicators that investors use to gauge the future trajectory of a stock is the spread between the two-year and 10-year yield on Treasuries. Some see it as a barometer of whether the economy is slowing or warming.

A spread between zero and 150 basis points is a “sweet spot” for stocks, according to Ed Clisold, chief US strategist at Ned Davis Research, which corresponds to an 11% annualized return for the S&P 500 based on historical data. . According to CFRA’s Stovall, the S&P 500 has gained an average of 9.1% annually since 1945.

That spread has widened recently and is up around 120 basis points on Friday. When spreads exceed 150 basis points, “that’s when stocks struggle,” Klisold said, historically equivalent to an annualized S&P 500 return of 6%.

“Too much of a curve means inflation is spiraling out of control and the Fed may have to tighten quickly,” Klissold said in a report this week.

Analysts at Goldman Sachs said the pace at which yields increase is also important, as is the economic and monetary policy background.

In a recent report, the bank compared the latest increase in yields with an increase of 50 basis points earlier this year.

While earlier growth reflected an improvement in the economic outlook, now that “economic growth is declining, (the Fed) is expected to announce the start of a tapering off at its November meeting, and our economists continue to report on China’s economic growth.” has lowered the forecast,” wrote analysts at the bank.

High yield pressure Stock valuations are a typical way of valuing equities by increasing the rate at which future cash flows are discounted. Such pressure is especially acute for tech and other growth stocks, whose valuations depend more on future profits.

The S&P 500 technology index fell 2%, compared to a 0.9% drop for the overall index since last week’s Fed meeting. Weakness in the tech sector, which accounts for more than 27% of the S&P 500’s weight, and other tech-related stocks, could spell trouble for the broader index, even as financially sensitive banks like rising yields hit hard. Shares make profit.

Many investors still consider stocks more attractive than bonds, despite the rise in yields. The equity risk premium, which compares earnings on stocks to the yield on 10-year Treasury bonds, currently favors equities, according to Keith Lerner, co-chief investment officer at Truist Advisory Services.

While that premium has historically been at levels it reached Wednesday’s close, the S&P 500 has beaten the 10-year Treasury note’s one-year return by an average of 10.2%, Lerner said.

“An increase in yields, up to a point, is healthy for the equity market,” said Matt Perrone, director of research at Janus Henderson Investors.

Reporting by Louise Kruskoff; Additional reporting by Noel Randwich in San Francisco; Editing by Ira Iosebashvili and Richard Chang

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