Friday’s surprisingly strong jobs data sparked stock falls and a sharp rise in bond yields, with investors reassessing popular bets that the post-pandemic economy will not be defined by much higher interest rates than before.
Yields, which rise when bond prices fall, rose after Friday’s report suggested the US economy is not slowing as quickly as investors had anticipated, with both job growth and wage increases beating economists’ forecasts exceeded. Stocks fell, but the Nasdaq Composite was still on track to post weekly gains.
At last trade, the 10-year Treasury bond yield was 2.869%, up from 2.674% on Thursday, according to Tradeweb. However, the 10-year yield remained well below its 2022 peak set in June 2022 near 3.5% after posting its biggest one-month decline since March 2020 in July.
Friday’s moves threaten a trade that helped major indices soar from their June lows, with the S&P 500 up 13% through Thursday. The tech-heavy Nasdaq is up 19%
Fueling That Ramp: Betting that inflation, which has been at a 40-year high, will fall going forward and the Federal Reserve will back off its aggressive pace of rate hikes.
“The bond market is the driver here,” said Zhiwei Ren, portfolio manager at Penn Mutual Asset Management. “It’s definitely a big boost for the stock market.”
Mr Ren said he recently unwound a position that Treasury prices will fall and yields rise because he believes the Fed must cut rates while the economy slows and potentially slides into a recession.
The movement of recent weeks marks a return to a trend that has been dominant for years, even during the Covid-19 pandemic: yields have remained relatively low and stocks have continued to climb steadily, with investors discovering few other alternatives to park their money . Tech stocks in particular thrived.
Friday’s rise in yields marked the latest bout of bond market volatility, showing that consensus on Wall Street can change quickly. Yields also rose earlier in the week after several Fed speakers stressed that additional rate hikes were needed to rein in inflation.
Sebastien Page, head of global multiasset at T. Rowe Price, said he’s been bearish on Treasuries in the portfolios he oversees for most of the year and has tried to hold less than the benchmarks he tracks . The company’s asset allocation committee has since abandoned that stance and is considering when to step in to buy shares.
Still, he said the lockstep rally in stocks and bonds “feels a little premature.”
In support of the bond market rally, money managers recently increased bullish positions in Treasuries to the highest levels since December 2019, according to data from Deutsche Bank, even as leveraged funds such as hedge funds increased their bearish bets. In mid-June, when the 10-year yield peaked, investors were expecting the federal funds rate to hit 4% next year. Interest rate derivatives on Thursday showed interest rates between 3.25% and 3.5% through early next year, quickly followed by rate cuts.
Riskier corners of the financial markets have benefited from the shift. According to Deutsche Bank, investors piled into junk bonds in late July after six straight weeks of outflows. The additional premium investors are asking to hold these sub-investment grade corporate bonds has recently fallen to its lowest level since early June, FactSet data shows.
And equity funds, which track companies promising rapid growth in the future, attracted record inflows in July compared to value funds — those tracking stocks that appear cheap relative to the market — in July, according to research firm Strategas. Investors pulled money from funds tracking commodities and energy funds.
Earlier this year, many investors placed a premium on companies that generate strong cash flows now rather than in the future. But strategists at JPMorgan Chase & Co. think stocks in technology and growth companies will outperform other corners of the market in the near term, having underperformed for much of the year, in part due to the decline in yields, he said an update to customers .
The tech-heavy Nasdaq was up 2.7% this week through Thursday, beating the S&P 500’s gain of around 0.5%.
Even some investors were surprised by the fall in yields, as the Fed accelerated the pace of monetary tightening after raising short-term rates by 0.75 percentage point at its June and July meetings.
Inflation data, which is motivating the Fed to act faster, continues to come hotter than expected. However, investors’ inflation expectations have moved in the opposite direction, largely on signs of a slowdown in economic activity.
Such expectations can be self-reinforcing. Fears that the developed world is slipping quickly into recession have already helped push commodity prices lower, which analysts expect in the next round of inflation data.
Although the data has been mixed, some investors have also become cautiously optimistic that the pace of wage growth is slowing, easing their concerns about a wage-price feedback loop.
Looking at the markets, money managers are moving their money in ways that suggest they see a recession coming. WSJ’s Dion Rabouin explains what to look for and why they tell us that investors are increasingly pricing in a recession. Illustration: David Fang
This assessment is hardly universal. Many investors looking at the same payroll data were far more bearish, and their concerns were reinforced by Friday’s data, which showed not only a stronger-than-expected increase in average hourly wages last month, but also an upward revision to June’s numbers.
Should Treasury yields return to previous levels, it’s not clear that stocks and other riskier assets would react as negatively as they did the first time.
As yields rose earlier in the year, investors sold stocks not only because of the then-high yields, but also because it was unclear how high they would have to go before they started slowing the economy, some investors said.
Investors have “gained more confidence in the Fed’s ability to contain inflation, [and] greater confidence in the idea that you don’t have to aim so high,” said Tony Crescenzi, portfolio manager at Pimco and a member of the firm’s investment committee.
When the 10-year yield surged to 3% in the spring, “that scared investors to death,” he noted, but “there might be something higher next time.”
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