Yield Sign Flashing: Spike In 10-Year Treasury Above 1.5% Spooks Market In Thursday Selloff

The Fed has said it won’t raise rates. The market is saying “We may raise rates for you.”

That’s arguably the story of today’s messy selloff. The 10-year Treasury yield flirted with and then finished above 1.5% for the first time in a year. That’s up 60 basis points from the start of 2021 and more than 20 points from a week ago. 

As the bond selloff accelerated, investors appeared to discount Fed Chairman Jerome Powell’s soothing words about inflation from earlier this week and took things into their own hands. Treasury yields tend to climb when people worry about rising prices. The pace of this yield rally is almost unprecedented.

What was really surprising Thursday was how strong selling was in the Nasdaq (COMP), which is full of growth and Tech stocks that are often seen being more vulnerable to higher rates. You had stocks like Tesla Inc TSLA, NVIDIA Corporation NVDA, and Applied Materials, Inc. AMAT fall sharply. The chip makers got pounded, with some down more than 5%.

You also had the “stay-at-home” stocks like the Zoom Video Communication Inc's ZM and DocuSign Inc's DOCU of the world getting absolutely smoked. Those stocks had all been down yesterday before staging a late-day comeback. So much for that.

Meanwhile, GameStop Corp. GME took a wild ride higher, then fell sharply but still finished up 18% for the day. Anyone thinking about buying an exchange-traded fund (ETF) should understand what they’re getting into, because many ETFs have volatile companies like GME included.

Ugly Close Could Reflect Yield’s Relentless Rally

Earlier this week, dramatic stock market declines met buying interest down below and stocks bounced back. Not on Thursday. 

Instead, things got uglier into the close, suggesting less “buy the dip” enthusiasm. After a 425-point rally in the Dow Jones Industrial Average ($DJI) on Wednesday, we saw it fall nearly 560 points today. The volatility has been dramatic all week, and the Cboe Volatility Index (VIX) reflects that, rising nearly 34% today to above 28.

One day isn’t a trend, and there’s no way to predict now if buyers will show up tomorrow. A lot of that depends on what the 10-year yield does overnight. One thing that kept buyers pouring into stocks over the last 10 months was historically low yields. You really can’t say that’s the case anymore.

The 10-year Treasury yield topped 1.55% today for the first time since Feb. 19, 2020. That’s a date that sticks out because it also marked the last all-time high for the S&P 500 Index (SPX) before the pandemic sent it crashing down by about 35% over the following month. 

Yields declined then along with stocks, reaching an all-time low of under 0.4% last March for the 10-year. Between then and the start of 2021, the 10-year yield traded in a range of between roughly 0.6% and 0.9%, with few exceptions. Since then, it’s climbed 65 basis points in less than two months.

The Auctioneer’s Gavel Was Quite The Hammer

Though the 10-year yield has been on the rise pretty much since the year began, it’s really accelerated this week. The catalyst today—and arguably what helped extend stock market losses—was an auction of 7-year Treasury notes that participants have described as “tepid,” “awful,” and even “brutal” in the words of a Wells Fargo & Co WFC analyst. 

The equity market seems to have priced in a good deal of dovishness from fiscal and monetary authorities. While that’s all well and good, it’s predicated on having sufficient demand for the resulting debt. If there’s not sufficient demand for that debt, absent additional participation from the Fed, interest rates will need to rise to meet demand.

So if markets have come to expect a continued rise in yields, tepid demand at auction can help make it happen sooner rather than later. And that can impact not only the previously high-flying tech shares, but if it continues, could also start to be felt in other interest rate-sensitive sectors such as housing. This is a trend worth watching.  

Yields, The Cost Of Money, And The Earnings Connection

That’s a lot to absorb, but it’s important for investors to understand because the 10-year yield often holds the key to stock market trends. When the yield is extremely low, the cost of money is cheap, and that tends to help big growth stocks with high valuations. 

Think of how the Tech sector rallied last year. Back then, there was lots of talk about how low yields (and the Fed’s dovish interest rate policy) meant valuations could be higher than normal because the cost of borrowing was cheap and would help strengthen future earnings. That’s a harder argument to make now with yields back at a more normal level, though still low from a historic standpoint.

The other thing that has people nervous is how quickly yields bounced. Typically you don’t see this kind of rapid action in the fixed income market unless there’s fear around, the way it was last year when yields crashed during the first pandemic wave. 

It’s harder for companies to make long-term plans when yields fluctuate so much this quickly, and it could ultimately mean companies putting off plans for investment, whether it’s for new products or acquisitions. They may decide to sit back a bit and see where yields go before making big decisions, and that’s not necessarily a positive thing for the stock market.

Leaving the yield discussion behind for a moment, Thursday’s action took the major indices down below some key technical support levels, which probably drove more selling. The SPX fell below its 20-day moving average at around 3873. The 20-day has been a level the SPX bounced off of several times over the last few months, including earlier this week. Now it’s well below that and is close to its 50-day moving average, which is at 3805.  

The COMP however, closed below its 50-day moving average and is close to 13,000, a low it hit a couple of times in the recent past. This is a level worth watching as we head into the last trading day of the month. 

And if you need one more possible reason for the Thursday selloff, remember that during the runup in stocks, many were pointing to the acronym “TINA” (there is no alternative) to stocks with yields so low. But if yields continue to climb, at some point they become a compelling “A.” 

Market Dive Comes A Day Before House Stimulus Vote 

Could the market be trying to tell Congress and the administration something?

There’s never a single reason why stocks or bonds move in any direction, and there’s a lot going on besides President Biden’s plan to push through another round of fiscal stimulus. That being said, the 10-year yield climbed to above 1.55% today from 1.1% on inauguration day just over a month ago, and tomorrow is when the House is expected to vote on the $1.9 trillion package.

While improved Covid numbers, vaccination progress, and some firm economic data points helped push yields higher, another factor could be investor concern about the stimulus potentially overheating the economy and raising inflation.

This isn’t a political column, but keep an eye out next week for any possible indications of concerns coming up during debate in the Senate. It still seems very likely stimulus will pass, but could its cost get driven down a bit if the bond market keeps ringing bells the way it’s been? That may be something to watch.

CHART OF THE DAY: YIELD RALLY INTERRUPTS TECH PARTY. Over the last month, the Info Tech sector (IXT—purple line) rallied and then got clipped by the relentless rise in the 10-year Treasury yield (TNX—candlestick). The yield rose on Thursday to one-year highs above 1.5%, raising worries about possible pressure on future earnings for high-flying and highly-valued growth sectors. Data sources: Cboe Global Markets, S&P Dow Jones Indices. Chart source: The thinkorswim® platform.

TD Ameritrade® commentary for educational purposes only. Member SIPC.

Photo by James Coleman on Unsplash