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October 12, 2018

Here’s Why Stock-Market Investors Suddenly Freaked Out Over Rising Bond Yields This Week

Alaric Securities

An October fright comes courtesy of rising Treasury yields.

It would be fun to be reincarnated as the bond market because “you can intimidate anybody,” Democratic political strategist James Carville once quipped.

A bond market selloff that pushed long-dated yields to more-than-seven-year high certainly appeared to give stock-market investors a fright this week.

In our call of the day, economist Oliver Jones of Capital Economics argues that investors are right to be worried and that the market action shows they are starting to factor in the prospect of a U.S. economic slowdown in response to tighter monetary policy by the Federal Reserve. That slowdown, which he expects to take hold in 2019, would also promise to drag down stocks and bond yields.

There was no clear catalyst for the Wednesday selloff that sent the S&P 500 SPX and the Dow Jones Industrial Average DJIA to their biggest one-day drops since February and the tech-heavy Nasdaq Composite COMP to its biggest plunge since June 2016. And that selloff was followed by another rout Thursday that left the Dow with a 2-day loss of nearly 1,400 points.

But a number of investors and analysts have argued that the stock market’s October weakness marked investor unease over a long-delayed jump in long-dated bond yields — a jump that briefly took the yield on the 10-year Treasury note TMUBMUSD10Y above 3.25% for the first time since 2011 on Tuesday. Yields and debt prices move in opposite directions.

In a note, Jones observed that, until recently, rising Treasury yields tended to coincide with a rising S&P 500 and outperformance by cyclical stocks, with both bond yields and equities pushed higher by good economic news.

“But this week’s drop in the index and marked underperformance of cyclical sectors — which has had no obvious trigger in the economic data — has come in the wake of a 40 [basis point] surge in the 10-year Treasury yield since mid-August,” Jones said. The phenomenon indicates investors are starting to factor in the possibility that higher rates could slow the economy sooner rather than later, he said.

Jones contends a U.S. economic slowdown “is no more than a few quarters away” and that Treasury yields and the S&P 500 will both likely end 2019 well below where they are now. Capital Economics is looking for the S&P 500 to drop around 15% from its late September record. And given the global rout that followed Wednesday’s U.S. selloff, that probably means weakness for other equity markets, too, he said. As for Treasurys, slower growth would likely cause the Fed to bring its tightening cycle to an end, with the 10-year yield sinking to around 2.5%.

The chart

While economists debate the potential impact of President Trump’s repeated criticisms of the Federal Reserve on the independence of the central bank, there’s no doubt the possibility the Fed will deliver another dreaded, expansion-ending policy mistake is on investors’ radar.

Of course, the latest survey by RBC Capital Markets didn’t ask investors whether they think the Fed is “crazy,” “loco,” or getting “a little too cute” — all charges that Trump leveled at Fed Chairman Jerome Powell and his fellow policy makers. But it did find that more than half of respondents see a high or moderate risk of a policy error, not far off the results of the bank’s June poll, as shown in the chart below.


The market

Global equity markets are attempting an end-of-week bounce after the Wall Street-led drubbing. U.S. stock-index futures are pointing toward a solidly higher open as investors turn their attention to earnings, with Dow futures YMZ8 up 238 points, or 1% and S&P 500 futures ESZ8 rising 1.1%. Nasdaq-100 futures NQZ8 are 1.6% higher. Stocks were still set to log their biggest weekly decline since March, however.

Asian stocks erased a soft open to end broadly higher, but still saw heavy weekly declines. European equities were also posting gains Friday.

The buzz

Earnings season began in earnest Friday morning, with results due from banking heavyweight JPMorgan Chase & Co. JPM, with Citigroup Inc. C and Wells Fargo & Co. WFC.

JPMorgan was first out of the gate, beating profit and revenue estimates. Shares rose 1.3%.

Analysts are skeptical that third-quarter earnings season will provide the fuel needed to undo the sector’s underperformance in 2018.

U.S. Treasury staff finds China isn’t manipulating the yuan, ahead of the release expected next week of the department’s twice-yearly currency report, according to Bloomberg.

Facebook Inc. FB  removed hundreds of U.S. pages and accounts it said were spreading false or misleading political content ahead of next month’s midterm elections. The move was aimed at stopping misinformation spread primarily by Americans rather than coordinated efforts by Russians.

Turkey may release detained U.S. pastor Andrew Brunson on Friday, a move that would help mend relations between Washington and Ankara.

President Donald Trump is considering as many as five candidates to replace Attorney General Jeff Sessions, on the assumption he will leave his post later this year.

China expects the trade spat and other factors to slow China’s foreign trade growth starting in the fourth quarter, but the latest data show exports to the U.S. surged 16.6% in September from a year earlier.

Hurricane Michael is blamed for at least six deaths. At least 1 million power customers were offline Thursday in Florida, Alabama, Georgia, the Carolinas and Virginia, according to local utilities.

Kanye West urged Trump to ditch Air Force One and get onboard with iPlane One.

Article and media were originally published by William Watts at