Yields on the Rise

Price action in Treasury markets over the last month has been a classic example of the popular “buy the rumor sell the news” maxim. Investors priced in lofty rate cut expectations ahead of the highly anticipated September Federal Open Market Committee (FOMC) meeting. And even though the Federal Reserve (Fed) delivered a 0.50% interest rate reduction, investors sold the news, sending Treasury yields notably higher. In fact, 10-year yields are now up over 0.50% since the September 18 rate cut.

The repricing of market expectations for rate cuts closer to Fed forecasts has been part of the story behind the rebound in yields, but not the only factor. Over the last month, inflation ticked higher while most economic data came in better than expected, triggering a lot of “no landing” narrative headlines. (A no-landing scenario is characterized by above-trend economic activity with inflation failing to meet the Fed’s 2% target.) As highlighted in the lower panel of the chart below, breakeven inflation rates — a market-based estimate of future inflation — and the Citi U.S. Economic Surprise Index (essentially the sum difference between official economic data results vs. forecasts) have both been trending higher over the last several weeks.

Growing concerns over rising U.S. deficits and who will win the White House next month may also be behind the advance in yields. Betting market odds for a former President Trump victory in November are tracking very closely to 10-year Treasury yields. In contrast, the odds for Vice President Harris to win are moving in the opposite direction of rates.

What’s Behind Higher Yields?

Source: LPL Research, Bloomberg 10/24/24
Disclosures: Indexes are unmanaged and cannot be invested in directly. Past performance is no guarantee of future results.

Where Do Yields Go From Here?

Turning to technical analysis, 10-year yields have bounced off oversold levels and reversed a downtrend dating back to the April highs. And while yields are now trading back above their rising 200-day moving average (dma), they need to clear key resistance near the 4.25%-4.30% range (October 2022 highs) for the advance to continue. Momentum has also turned bullish but is overbought. The Relative Strength Index (RSI) on 10-year yields — a momentum oscillator used to measure the velocity of price action to determine trend strength — recently hit its highest reading since September 2022. A failure at resistance and subsequent pullback below support at the 200-dma (4.17%) would suggest yields may have found the upper end of a potential trading range.

What would a breakout above resistance mean for stocks? As highlighted in the bottom panel of the chart below, the last two sustained moves above the 4.25%-4.30% range created headwinds for equity markets. The start of the S&P 500 correction last fall and its pullback this spring both overlapped with a breakout in yields above this resistance range.

Yields Approach an Important Inflection Point

Source: LPL Research, Bloomberg 10/24/24
Disclosures: Indexes are unmanaged and cannot be invested in directly. Past performance is no guarantee of future results.

Moves in interest rates have different impacts across the market, as the correlation comparison data highlights below. Higher yields could weigh more on the real estate sector and international developed markets, as they have been the most negatively correlated assets to 10-year Treasury yields over the last year (of course, a pullback in yields could be a tailwind to these areas as well). Energy and oil could be relative outperformers in the event of a breakout higher in yields, as they have the closest correlation to yields.

Correlation Comparisons to 10-year Yields

Source: LPL Research, Bloomberg 10/24/24
Disclosures: Indexes are unmanaged and cannot be invested in directly. Past performance is no guarantee of future results.

Summary

Treasury yields have rebounded off oversold levels as investors dialed back aggressive rate-cutting expectations. Concerns over an uptick in inflation underpinned by better-than-expected economic data have further contributed to the recent advance in yields. Technically, 10-year yields are near an inflection point as they approach key resistance from the October 2022 highs. A breakout above 4.30% could be a tipping point for risk appetite, as was the case last fall and earlier this spring. Furthermore, with an election only weeks away, sentiment reaching contrarian levels, momentum indicators deviating from price action, and the S&P 500 approaching the upper end of its longer-term rising price channel, a pause or pullback in this rally would not be surprising. The good news is that market weakness could provide a tactical opportunity to buy the dip as the longer-term bull market remains alive and well, supported by solid fundamentals and a surprisingly resilient slowing but growing economy.