Wall St Week Ahead Bruised market considers Treasury yields to gauge stock trajectory

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The front facade of the New York Stock Exchange (NYSE) is seen in New York, United States, February 16, 2021. REUTERS / Brendan McDermid / File Photo

NEW YORK, Oct.1 (Reuters) – Investors focus on Treasury yields as key factor in determining how stocks will perform for the rest of the year, after a month in which stocks suffered their biggest losses since the start of the coronavirus pandemic.

The S&P 500 Index (.SPX) posted its largest monthly decline since March 2020 in September, while falling as much as 5% below its all-time high for the first time this year.

Stocks faltered as U.S. Treasuries yields hit a three-month high, heightening concerns in a market already disrupted by a bitter fight over the U.S. debt ceiling, the fate of a massive US debt ceiling. infrastructure spending and the collapse of the heavily indebted Chinese real estate developer China 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 move inversely to bond prices, are rebounding from historically low levels and their recent rally is widely seen as a sign of economic strength.

Their rally follows the Federal Reserve’s Hawkish tilt at its monetary policy meeting last week. The central bank has said it could start cutting its $ 120 billion-per-month government bond purchase program as early as November and potentially start raising rates next year, sooner than some expect. ‘had planned. Read more

Yield increases, such as the 27 basis point move recorded by the benchmark 10-year rating after the Fed meeting, could cloud the appeal of equities. The 10-year yield held around 1.47%, reducing gains towards the end of the week.

Stocks and bonds could take inspiration over the coming week from developments in Washington, where lawmakers continue to debate an infrastructure spending program, as well as the monthly U.S. jobs report. next Friday. Read more

Among the metrics investors use to gauge the future path of stocks is the spread between yields on two-year and 10-year Treasuries. Some see it as a barometer of whether the economy is slowing down or overheating.

A spread of between zero and 150 basis points is a “sweet spot” for stocks, which works out to an 11% annual return for the S&P 500, based on historical data, according to Ed Clissold, chief US strategist at Ned Davis Research. . The S&P 500 has averaged a 9.1% annual gain since 1945, according to CFRA’s Stovall.

This spread recently widened and stood at around 120 basis points on Friday. When the spread exceeds 150 basis points, “that’s when stocks tend to struggle,” said Clissold, which historically equates to an S&P 500 annual return of 6%.

“Too steep a curve means inflation is getting out of hand and the Fed may need to tighten quickly,” Clissold said in a report this week.

The speed at which yields rise is also important, as is the economic and monetary policy environment, Goldman Sachs analysts said.

In a recent report, the bank contrasted the latest rise in yields with a peak of 50 basis points earlier this year.

While the previous hike reflected an improving economic outlook, now “economic growth is decelerating, the (Fed) is expected to announce the start of the cut at its November meeting and our economists have lowered China’s economic growth forecast “the bank analysts wrote.

Higher yields put pressure on stock valuations by increasing the discount rate for future cash flows, a typical way of valuing stocks. Such pressure is particularly acute for tech stocks and other growth stocks whose valuations rely more on future earnings.

The S&P 500 Technology Index (.SPLRCT) fell 2% against a 0.9% drop for the overall index since the Fed meeting last week. Weak tech sector, which accounts for over 27% of the weight of the S&P 500, and other tech-related stocks, could cause problems for the broader index, even if higher yields benefit stocks economically sensitive such as banks.

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

While that premium has historically been at the level it hit at Wednesday’s close, the S&P 500 beat the one-year yield on the 10-year Treasury bill by an average of 10.2%, Lerner said.

“Rising yields, to a point, are healthy for the equity market,” said Matt Peron, director of research at Janus Henderson Investors.

Reporting by Lewis Krauskopf; additional reporting by Noel Randewich in San Francisco; edited by Ira Iosebashvili and Richard Chang

Our Standards: The Thomson Reuters Trust Principles.


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