The Dow closed 1,500 points higher on Wednesday, boosted by Donald Trump’s presidential election win and a possible Republican-controlled Congress, signaling strong market optimism.
Alongside the stock rally, U.S. Treasury yields also increased, raising concerns among some analysts about market stability and the potential effects on equities.
The 10-year Treasury yield rose over 14 basis points, reaching 4.433 per cent—its highest level since July. Similarly, the yield on the 2-year Treasury climbed by about 7 basis points to 4.274 per cent, its highest since July 31.
Yields and bond prices move inversely – as yields rise, bond prices fall. This often indicates a shift toward safer investments, suggesting that investors may be cautious about putting money into equities amid anticipated economic changes under new leadership.
So, what does a rise in Treasury yield indicate?
Goldman Sachs (GS) analyst David Kostin released a report on Wednesday detailing an updated outlook for the equity markets. In the report, Kostin cautioned that a significant rise in 10-year Treasury yields could constrain any sustained rally in stock prices.
“A further sharp increase in 10-year Treasury yields would likely limit the magnitude of any potential rally in stock prices.” he wrote.
Kostin noted that, so far, equities have managed to absorb higher yields, largely because improved economic data have driven the increase. However, he warned that a continued rise in bond yields could narrow market gains, concentrating the rally within certain stocks while limiting broader sector performance. This trend could reflect investor caution as higher yields make safer investments like bonds more appealing relative to equities.
Interest rate cuts are on the horizon
In the report, Kostin projected that the Federal Reserve would reduce the federal funds rate by 25 basis points on Thursday, bringing it down to a target range of 4.5% to 4.75%. He further anticipated an additional quarter-point cut at the Fed’s upcoming Dec. 18th meeting. These rate cuts, according to Kostin, are likely part of the Fed’s strategy to support economic growth amid evolving financial conditions and to provide some relief to borrowers as bond yields climb. Courtesy of QUARTZ
