Liz Looks at: Rising Yields

By: Liz Young · April 04, 2024 · Reading Time: 4 minutes

On the Rise Again

I do not expect many, if any, of my younger readers to know the songs of Willie Nelson. Or perhaps you’d recognize the songs but have no idea who Willie is. Let this be a reason for you to Google him and admire his long braided pigtails.

On the Road Again is one of his most popular songs, and a great way to frame this week’s column. We find ourselves at yet another juncture in Treasurys, with the 10-year yield up roughly 20 bps in the first three days of April. While investors try to determine the drivers of such a large move, stocks are faltering and commodities are rallying.

The 2-year Treasury yield is up as well, but not by the same magnitude, which suggests more selling pressure on the longer end of the curve driven by strong economic data and rising inflation expectations.

This is good in many respects, stronger growth and demand has prevented economic data from showing signs of distress, but the rise in inflation expectations doesn’t seem to be sitting well with markets or the Fed.

I suspect that this week is part of the market’s delayed digestion process of later-than-expected rate cuts, and higher-than-expected yields for a longer-than-expected period of time. We’re still unsure whether or not the rate hikes will have a delayed painful effect, but we’re becoming more sure that the longer this Fed pause lasts, the higher yields can stay.

Commodities Are Always on My Mind

If the economy continues to absorb above-target inflation and elevated yields, things can keep humming along undisturbed. But can the economy absorb a renewed rise in inflation?

The talk of AI and semiconductors that are seemingly expected to save… everything… has diverted attention away from what’s happening in some “old economy” parts of the market such as oil. WTI crude prices are up over $15/barrel since early January. While still below the peak in 2023 and far below the peak in 2022, the steady grind higher this year threatens the “inflation is falling” narrative and has driven expectations higher.

Given oil’s tight correlation to inflation expectations (measured here by the 10-year breakeven rate), this is worth keeping a close eye on. But it’s not just oil that’s risen in recent weeks; copper is up over 7% YTD, and gold is up over 10%. Those two commodities don’t typically move in the same direction so this is a departure from the usual relationship, which generally deserves a raised eyebrow.

One of the Fed’s consistent statements has been that inflation expectations are still well-anchored, which has given them comfort that PCE is not an unwieldy beast. If expectations start to rise across time frames, however, I’d expect that narrative to change.

Don’t Let Your Babies Grow up to Be (Bond) Vigilantes

The concept of bond vigilantes has been around for awhile, and it refers to bond traders who sell bonds in order to pushback or express their distaste for certain policies of the bond issuer. In the past, this has happened when Fed policy is viewed as overly dovish, and results in selling pressure on Treasurys that is intended to discourage further dovish moves.

That may be partly at play in markets today as rate cuts continue to get pushed further and further back, but the more important thing to track is the relationship between bond yields and stock prices.

Generally, we’d expect stocks to move in the opposite direction from bond yields; in other words, if yields rise, stocks fall. This market cycle has challenged that theory time and again with stocks rising alongside yields. In fact, for most of the YTD period that’s been the case — yields up, stocks up.

This week has investors starting to wonder if the relationship is set to flip again. It’s too soon to know right now, but the market action certainly feels more shaky than it has during other increases in yield.

There haven’t been any glaringly negative headlines, big shocks, or ominous corporate events over the past week, yet the tone seems to have shifted in markets. A pause in the rally, during a pause from the Fed, is creating what feels like a pause in the unencumbered enthusiasm.


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