The S&P 500 on Friday secured its eighth consecutive weekly gain, marking the index’s longest winning streak since 2023. The reasons may appear recognisable: robust corporate earnings and enthusiasm for AI as investors overlook apprehensions regarding the conflict with Iran. However, in the bond market, negative sentiments are unsettling investors and may hinder the capacity of stocks to continue their upward trajectory. US Treasury yields, which influence interest rates throughout the economy, are currently at their peak levels in a year. Yields increase as bond prices decline. Traders currently anticipate that the Federal Reserve will maintain interest rates at their current levels in the near term, with a potential for a rate increase later this year, as indicated by CME FedWatch. That is due to the closure of the Strait of Hormuz, resulting in oil prices reaching four-year highs, while inflation expectations continue to rise. Increased Treasury yields result in elevated costs for loans and mortgage rates, placing additional strain on consumers at a time when sentiment is already at historically low levels, as indicated by the University of Michigan’s extensive consumer survey. When Treasury yields rise above one-year highs, “it gets harder for the stock market to ignore; it gets harder for everyone to ignore,” said Rob Williams.
It has implications for housing affordability. It influences all aspects. Corporate America continues to report robust profits. The S&P 500 is poised to achieve the highest quarterly earnings growth rate since 2021, as reported. The S&P 500 has achieved 18 record highs this year and is currently less than 0.5% from reaching yet another milestone. The AI buildout and tax cuts from President Donald Trump’s “One Big Beautiful Bill Act” have contributed to an increase in share prices, particularly within the technology and AI-related sectors. The S&P is weighted by market capitalisation, indicating that companies with greater market value exert a more significant impact on the index. Since the onset of hostilities with Iran, the S&P 500 has experienced an increase of approximately 8.6%. However, during the same timeframe, an equal-weighted version of the S&P 500 has increased by less than 1%. “It’s just an increasingly narrow set of things that are working,” remarked Jeff Klingelhofer. “For now, at least, the market is focusing solely on those aspects, potentially overlooking some of the warning signs.” Meanwhile, since March 30, the 10-year yield has increased from 4.34% to approximately 4.56%. Klingelhofer acknowledged the favourable conditions for stocks, particularly in relation to AI. He expressed surprise at how investors seem to overlook the potential strain on consumers from significantly higher yields, even in the face of warning signs such as rising auto loan delinquencies. “I don’t think markets are appropriately focused on all of the potential headwinds,” Klingelhofer stated.
Bond investors are seeking elevated yields as a hedge against the inflationary pressures arising from the ongoing US-Israeli conflict with Iran, which has persisted for nearly three months, alongside concerns regarding the escalating government debt in various nations. Meanwhile, “greed” is propelling the stock market, as indicated by Fear and Greed Index. The index has indicated “greed” since April 15, when the S&P 500 reached its initial record high since the onset of the conflict. Treasury yields generally fluctuate in response to anticipations regarding inflation and economic expansion. While inflation is causing concern among certain investors, economic growth is simultaneously contributing to the rise in yields and stock prices. The Atlanta Federal Reserve’s daily tracker of economic growth estimates US GDP at a robust 4.3%. Unemployment in April remained stable at 4.3%, a figure that is considered relatively low. “Steep moves in interest rates have the potential to undermine consumer resilience, but the current margin, while notable, is less immediately impactful on the average American,” said Kriti Gupta. The stock market may disregard the increase in yields if investors concentrate on the robust economy.
The scenario intensifies as attention shifts to persistent inflation, characterised by a robust economy juxtaposed with a fatigued consumer base. Ultimately, the situation hinges on oil prices and the strategic significance of the Strait of Hormuz. If oil prices continue to trade near $100 per barrel – up more than 68% since the start of the year – inflation concerns will persist and yields could rise further. A core measure of the Consumer Price Index that excludes food and energy increased by 2.8% year-over-year in April. If core CPI rises above 3% year-over-year in the upcoming months, strategists at Barclays indicated that higher yields are more likely to exert pressure on stock prices. CPI monitors the typical price fluctuations for widely used goods and services. The stock market is capable of absorbing elevated yields provided that the economy continues to exhibit robust growth, Gupta at JPMorgan stated. However, should concerns regarding inflation escalate and bond market volatility rise, these factors may overshadow the optimistic projections for economic growth. And that line is what the US market is grappling with as the timeline shifts around a resolution to the conflict in Iran’, she stated.