Anxiety among investors is being fuelled by the sharp rise in bond yields,
driven by indicators of stronger-than-anticipated growth in segments of the
global economy. This has prompted speculation that central banks may keep
interest rate levels elevated for longer. The U.S. 10-year Treasury yields
reached their highest level in 15 years on Monday, and U.S. real yields,
which reflect returns on government bonds after factoring in inflation are
near their 2009 peak.
Soaring U.S. Treasury yields are sending ripples of unease through
higher-risk market segments, leaving market participants speculating on the
extent to which this could dent the stock market rally. Heightened economic
growth prospects have reinforced expectations that the U.S. Federal Reserve
will sustain higher rates for an extended period, propelling Treasury yields
to levels not witnessed since 2007.
The surge in energy prices is also raising concerns that the inflationary
impact on the global economy is not yet abated, despite some cooling in
price pressures. European gas prices have surged significantly, and oil
prices are near nine-month highs, following output cuts from Saudi Arabia.
These movements in energy markets, which are pivotal drivers of inflation
and inflation expectations, suggest that despite price pressures cooling
the fight against inflation is not done yet. Consequently, the narrative
around interest rates remaining higher for a longer period than initially
anticipated has gained traction in recent times.
In addition to these factors, China’s property sector is undergoing an
unprecedented debt crisis, alongside a string of disappointing economic
data in the world’s second-largest economy. This is raising fears that
further problems could spill over into global markets. The property sector
contributes approximately 25% to China’s economy and adds to the existing
challenges, such as sluggish domestic consumption, weakening industrial
activity, rising unemployment, and weak overseas demand.
The financial sector has not remained unscathed, as S&P Global Ratings
downgraded on Monday five regional U.S. banks by one notch and signalled a
negative outlook for several others. Moody’s had undertaken similar
downgrades two weeks ago and is reassessing the credit ratings of larger
banks.
Source: TradingView, S&P 500 Yearly Chart
The S&P 500 has dropped 6% this month, as the U.S. benchmark 10-year
Treasury yield surged to 4.36% – its highest level in over 15 years. A
crucial test for market sentiment is the annual gathering of central
bankers in Jackson Hole, Wyoming, on Friday where Federal Reserve Chair
Jerome Powell is scheduled to deliver an address on the economic outlook.
Some investors believe that equities will maintain their resilience in a
year where the benchmark index has had an impressive run and gained 15%
year-to-date. Prospects of a soft landing for the U.S. economy further
support this sentiment, with predictions that the recent reduction in
equity exposure will be short-lived. Company earnings may have reached
their nadir in the second quarter and are likely to expand in the third
quarter, potentially propelling the index to new highs by year end.
However, other investors are concerned that various destabilizing factors
are beginning to emerge, impacting sentiment and risk appetite. These
include surging bond yields, rising energy prices, and mounting concerns
about China’s economic slowdown. These developments are causing investors
to reevaluate their positions following a period of sustained stock market
gains.
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