Will higher bond yields sink equities?

US government borrowing is increasing the supply of bonds and lowering their prices

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published 19 February 2021

The arrival of the pandemic last spring sent investors flooding into the traditional safe haven of government bonds. That sent bond yields, which move inversely to prices, plummeting. By August the US ten-year Treasury was yielding just 0.5%.

Positive vaccine news means bond yields have been ticking back up since the autumn, especially in America. Investors are selling out of government debt instruments to buy into growth opportunities in other asset classes. Rising inflation expectations also mean bond investors demand higher yields as protection against the risk that their income stream is inflated away. Finally, massive US government borrowing increases the supply of bonds in the market, which lowers their prices and raises yields. The 30-year US Treasury bond is back above 2% for the first time since Covid-19 began, says Alexandra Scaggs for Barron’s. The benchmark US ten-year note is now above 1.2%. Rising yields pose a challenge to the equity bull market. They could tempt investors away from shares. Savita Subramanian of Bank of America says 70% of S&P 500 firms pay a higher dividend than the ten-year Treasury at present. That proportion would fall to 40% if the ten-year yield climbs to 1.75%, which could prompt a rush out of stocks.

Investors have long complained that poor bond yields force them into stocks in search of an above-inflation return, says Katie Greifeld on Bloomberg. Yet a recovery this year will raise pressure on the Federal Reserve to end its asset purchase programme and could even lead to talk of interest rate hikes, which will send bond yields higher. The days of Tina – “there is no alternative”– to buying stocks may be drawing to a close.