(Bloomberg) — Treasury yields are quickly moving higher as investor expectations grow that the Federal Reserve will raise interest rates in March and follow up with further moves throughout the year.
The 10-year U.S. Treasury yield has risen almost 30 basis points since the end of 2021 as market participants begin to price rate hikes earlier and at a faster pace, with speculation about a 50 basis point move in March creeping into discussions.
Here are some thoughts as to what the effect of rising Treasury yields might be:
Dearth of Inflows
“The anticipation of higher yields is already impacting the broader market which has seen a weak start to the new year for equities,” said Adam Reynolds, chief executive officer for Asia-Pacific at Saxo Capital Markets Pte. via email Monday. “Typically we see inflows in January, which drive outperformance. This year that has not occurred. The more important consideration for me is the prospect of an early start to reducing the size of the Fed balance sheet. Any significant and early withdrawal of liquidity will have a negative impact on asset prices.”
“We are seeing a weak start for the week in both equities and fixed income,” Reynolds added. “My expectation is that this will continue throughout the week and even may start to accelerate.”
Growth Versus Value
“The outlooks for the Fed, interest rates, and economic growth suggest equity investors should balance their exposures to growth and value,” said Goldman Sachs Group Inc. strategists led by David Kostin, in a note Friday. “Our rates strategists expect yields will continue to rise, a dynamic that should support value over growth. However, their nominal 10-year yield targets of 2.0% by year-end 2022 and 2.3% by the end of 2023 outline a more gradual path than the volatility the market has faced during the past few weeks.
“Our economists expect the waning of the Omicron wave to lift GDP growth from 2% in 1Q to 3% in the second quarter, supporting value stocks,” the strategists added. “But they expect growth will slow to a 2% pace by 4Q 2022, the type of environment that generally supports growth stocks.”
Dollar Bear Bets
“The dissonance associated with the juxtaposition of higher Treasury yields and a softer U.S. dollar stemming from the underlying hawkish Fed divergence (vis-a-vis the European Central Bank and Bank of Japan) reveals the many tensions that dwell beneath,” said Vishnu Varathan, head of economics and strategy at Mizuho Bank Ltd., in a note Monday.
“Insofar that a hawkish Fed is augmenting inflation expectations lower, real UST yields have been climbing; catching up with, and potentially overtaking the rise in nominal yields,” he continued. “And if sustained, this lift in real rates should inspire USD traction, if not rebound. If indeed the real (rates) U.S. dollar stands up, one-way bearish bets on the dollar will fumble.”
Big Tech
“A weak tech season coupled with the higher rate environment we think augers in more selling in the Nasdaq 100,” said Michael Purves, chief executive officer of Tallbacken Capital Advisers LLC, in a note Sunday. “And it is hard to think that won’t spill over to broader index pressure. Yes, value should see rotational dynamics, but that the big tech weight in the SPX is a hefty boat anchor to carry around if it needs to get sold.
“With that said, it is interesting to see that while the SPX options market is somewhat middling, the VXN (a VIX for the NDX) has been steadily climbing,” he said. “Since early December, the VXN – VIX spread has been climbing in higher than the VIX in tandem with the NDX’s underperformance relative to the SPX. And both of these metrics have concurred with the rise in the 10-year Treasury yield and hawkish pivot.”
Real Reservations
“Broadly speaking, rising real yields are negative for risk assets,” said Sue Trinh, head of global macro strategy Asia at Manulife Investment Management HK Ltd., in comments Monday. “We find that higher real rates are likely more painful for risk assets than higher nominal rates.”
She added, “crucially, the correlation between real yields and risk assets has become stronger and more negative in the past five years.”
Crypto Divergence
There’s been a big divergence in performance recently between the largest cryptocurrencies and some of those that are emerging, notes Jonathan Cheesman, head of over-the-counter and institutional sales at crypto-derivatives exchange FTX, who pointed to weak returns from the likes of Bitcoin and Ether in the past month, while tokens like NEAR and Fantom have surged.
“This decorrelation could relate back to the macro environment (i.e. Fed tightening) in two ways,” Cheesman said. “1) Traditional investors have been focusing on the large caps and as a large part of their thesis was monetary inflation, they are presumably exiting. 2) While tightening is coming, it’s not here yet. There is still a huge amount of liquidity in the system, so we are seeing large gyration under the surface without as much volatility on the index or aggregate level.”
More stories like this are available on bloomberg.com
©2022 Bloomberg L.P.
