More Rate Scares Ahead for Stocks -- Heard on the Street
By Justin Lahart
The convulsions that the Treasury market sent stocks into over
the past couple of weeks are something that investors should
probably get used to.
With Covid-19 cases falling, millions of Americans receiving
vaccinations each week and another round of government relief
looking likely, expectations have been ratcheting higher for how
quickly the economy will grow this year. At the start of January,
economists polled by IHS Markit forecast gross domestic product
would be up 4% in the fourth quarter of 2021 from a year earlier;
now that figure stands at 5.5%.
Expectations of a stronger economy count as a positive
development for companies' earnings prospects, but they are also
pushing long-term interest rates higher, with the 10-year Treasury
recently yielding 1.47% versus 0.93% at the start of the year. That
isn't unusual, since long-term rates typically go up as the
economy's prospects improve, but then again stocks haven't tended
to be as expensive at the start of recoveries as they are now.
The S&P 500 trades at about 22 times analysts' expected
earnings over the next year, according to FactSet, which is close
to its highest forward price-earnings ratio in 20 years. In
December 2009, six months after the last recession ended, the
S&Ps forward price/earnings ratio was about 14.
As a result, even relatively modest moves upward in Treasury
yields, and therefore the relative attractiveness of bonds to
stocks, can cause market spasms. This is particularly true of the
richly valued technology shares that have been among the biggest
market winners since last spring.
So long as rising Treasury yields are driven by an improving
outlook for the economy, the stock market may be able to absorb
higher long-term rates. But that doesn't mean the process will be
smooth. One issue is that rather than gradually drift up, Treasury
yields may instead have long periods where they stay relatively
steady, and then jump quickly.
Layer in the Federal Reserve. Officials at the central bank have
made clear that they plan to leave short-term rates near zero and
keep buying Treasurys and mortgage securities until the economy is
well on the way to health, but if the Covid crisis really does
fade, Treasury investors may question the Fed's commitment to keep
buying assets in particular. That could lead to paroxysms in the
bond market that agitate stocks as well.
It isn't hard to envision situations in the months ahead where
the Fed worries the Treasury market is getting ahead of itself and
feels a need to calm the waters.
If the economy really does improve through the course of the
year -- an eventuality that, of course, depends on the fight
against the pandemic going well -- the stock market could be in for
a period of general optimism punctuated by panicked, rates-driven
selloffs. In other words, the market's recent displacements could
be just a preview of what is to come.
Write to Justin Lahart at firstname.lastname@example.org
(END) Dow Jones Newswires
March 03, 2021 16:50 ET (21:50 GMT)
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