Rising Interest Rates Are Becoming a Market Obstacle
Economic conditions and increased odds of a Trump victory are pressuring bonds and pushing up interest rates.
You've reached your free article limit
You've read 0 of 1 free Pro articles.
On Tuesday, the S&P 500 suffered a small loss, the Nasdaq 100 QQQ had a small gain, and the Russell 2000 IWM was hit hard with a pullback of 1.6%. The movement in equities wasn't significant, but the yield on the 10-year government bond increased to 4.18%, which is the highest close since July 26.
Bonds have been declining, and interest rates have been rising steadily since the Fed half-point rate cut in September. The conventional wisdom was that the start of a Fed easing cycle should cause bonds to trend higher as interest rates moved lower.
So far, stocks haven't been too concerned about interest rates. The strong economy and the promise of two more quarter-point cuts this year have caused equity investors to overlook the problem of higher rates. But concerns are building up.
One factor that is impacting the bond market is the rising odds of a victory by former President Trump in two weeks. The logic is that Trump will create faster economic growth, but policies such as tariffs will strengthen the dollar and cause prices to rise. The bond market is signaling that the Fed is likely to be less dovish if those conditions continue.
The big question for investors is whether the interest-rate pressures will spill over into the stock market. On Monday small-caps, which are more interest-rate sensitive, sold off. In addition, other groups that are tied to rates, such as homebuilding, regional banks, and cyclical names, underperformed.
If interest rates go up, multiples tend to go down as future income streams are worth less when discounted to present value. Stocks will need bigger beats and stronger guidance in a higher interest rate environment.
At this point, the best course of action is to watch closely to see how sensitive the stock market is to movement in bonds. If bonds continue to sell off, it will be very difficult for equities to continue to trend higher. There hasn't been any major shift so far, but conditions are ripe for downside if bonds don't reverse or find support.
We have a weak start on the way Tuesday. Watch SAP SAP for clues as to the market's inclination to sell good news.
At the time of publication, Rev Shark had no positions in any securities mentioned.
