The Recent Rise Of The US 10-Year Treasury Yield Is Still A Risk Factor For Stocks
An indicator that tracks the 10-year yield’s relative strength vs. recent history suggests the potential for turbulence in equities remains elevated.
By James Picerno | The Milwaukee Company | jpicerno@themilwaukeecompany.com
The US 10-year Treasury yield is arguably the single-most important interest rate in the world, given its influence on a wide range of economic and financial activity. It’s certainly a key near-term risk factor for stocks in terms of offering a risk-free alternative.
If the 10-year yield is relatively elevated, it’s a compelling “risk-free” substitute to equities. In the long run, stocks are expected to be far more competitive, of course. But over shorter periods, which are buffeted by the give and take of greed and fear, a sharp rise or fall in the 10-year yield can influence the risk appetite for stocks. The reasoning: the opportunity to lock in a competitive payout rate from the government, if it’s sufficiently high, cuts into the near-term appeal of the equity market’s higher but less-certain long-term expected return.
The challenge is deciding when the 10-year yield is high enough to pose a substantial near-term risk for stocks? That’s forever a speculative undertaking, and one that comes in many varieties, along with the usual caveats. One possibility that’s worth regular monitoring is the 10-year yield’s relative level vs. its recent history. In particular, the top chart below tracks the 10-year rate in terms of its current percentage of its maximum level over the trailing 200-trading-day window.
By that measure, this 10-year-yield indicator’s 95% reading (as of 3:00 pm eastern on Feb. 18) continues to signal elevated risk for stocks. Generally, a reading above 95% can be viewed as a warning. Like any risk metric, it’s hardly flawless as a predictor, although it does post an encouraging history of highlighting periods when the odds look relatively high(er) for a weak run in stocks in the near term.
The current 95% print is on the border line that arguably separates “high” from “low/moderate” risk. The question is where the 10-year yield goes from here? As usual, there are many factors that could raise or lower the benchmark rate. Factors on the short list to monitor include incoming data that colors the outlook for sticky inflation risk, which has been a recent driver behind the 10-year rate’s recent rise. As expectations for inflation increase, the crowd demands a higher yield premium as compensation for that risk.
Another variable to watch is the potential for an upswing in trade-war risk as the White House weighs its options for imposing higher import tariffs per President Trump’s preferences for managing the nation’s global trading relationships. To the extent that trade-war risk rises, the appetite for a safe- haven asset could increase and thereby drive the 10-year rate lower as demand for bonds increases fixed-income prices (bond prices and yields move inversely).
Meantime, the 10-year yield appears to be straddling the fence, waiting for the next shoe to drop. Perhaps not surprisingly, the stock market is relatively calm at the moment, trading at/near its recent highs.
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