Federal Reserve Chairman Jerome Powell is testifying ahead of the Senate Banking Committee hearing on the “CARES quarterly report to Congress” on Capitol Hill in Washington, December 1, 2020.
Susan Walsh | Amar | Reuters
Stock investors are trying hard to explain what an increase in bond yield means for the stock market.
Since February 10, 10-year Treasury yields – unchanged by inflation – have moved from 1.13% to as high as 1.61%, an increase of 48 basis points, the highest level in a year. (One basis point equals 0.01%)
Fear of inflation is causing investors to speculate that the Federal Reserve will move policy faster than expected, by either reducing bond purchases or even raising rates at some point. That would be negative for stocks. At last count on Thursday, the Dow was down 500 points.
Peter Tchir of the Securities Academy says that the recent rise in 10-year bond yields represents a view of inflation, but this may not be true: “The increase in 10-year bond yields is not year reflects a real rise in inflation, it shows that investors expect. there will be an increase in inflation, “he told me.
Tchir notes that Federal Reserve Chairman Jerome Powell has been pushing back against the notion that overhead inflation is coming, noting in his evidence that widespread signs of inflation have been present in the real world, and if they occur at all such an increase would be “transient.”
Who is right about inflation?
Bond investors are becoming increasingly concerned about the potential for inflation. Powell says he’ll stop worrying about it. Who is right?
It depends on who you ask, and what you look like.
Do we see inflation in the real world? We do in commodities: Oil is approaching its highest level since 2018, for example, and copper is at an almost 10-year high.
But signs of consumer inflation, for example, have been quiet, with inflation at 2% or lower for several years.
Bulls like Tchir maintain that, in this case, the rise in yields is not a negative bond for stocks: “This time the increase in yield is due to economic growth, stimulus, and bottom That’s all good for stocks. That’s why I’m not too scared of this rise. “
He says that the rise in commodity prices can be easily reversed, and believes that much of that rise is just a temporary condition reflecting the reopening, and that prices will return to “normal” levels over time.
Hans Mikkelsen, credit strategy at Bank of America, is less certain. He agrees with Tchir on economic growth, but believes it will be much stronger than expected and that this will put pressure on inflation: “Since the summer of 2020 economists have been slowing economic growth to an unprecedented level. It seems that there is a real danger to the Fed. It will not be able to make sound much longer and that move could see a wider spread of credibility. “
Stocks on the edge
The key to the game, Tchir asks, is can Powell stick to his guns: “If the food stays committed to keeping short-term yields low, it will bring comfort to those who can’t we ‘tantrum taper,’ where levels are sudden. skyrocket. Powell has told us that he is comfortable with inflation and is not going to respond to short-term trends. I think he’s going to stick to his guns. “
There is another issue: With stock prices so high there is no room for error. Small shifts in yields could cause technical investors in particular to take profits, with the assumption that this is as good as it gets.
Veterans stock reporter Michael Farr from Farr, Miller & Washington has told clients that even this moderately small increase in rates is a sign: “The days of drilling the Investors must now recognize that there are other opportunities out there, including both untapped stocks. performance as well as increasingly attractive bonds Powerful economic reversal coupled with rising interest rates and higher inflation, if that is indeed the case, will change the investment backdrop in some way meaningful. “