Rising Treasury Yields Sparking Volatility - Good News Long-Term

Volatility has come back into the equity markets, driven by rapidly increasing Treasury yields. In fact, since the vaccine data came out towards the end of last year, Treasury Bonds are down 27.7%, meaning yields are up. This has coincided with value stocks and financials going on a massive rally and outperforming peers, after a long period of underperformance. Treasury yields are rising because of good economic news. You have a massive stimulus, the vaccines are going out at a rapid rate, which will only increase in the next few weeks and months. Businesses are doing well and consumers are healthy, but of course, there are areas of weakness such as travel and leisure. Recently, I’ve been to Las Vegas and I can tell you it is a different world than the Vegas of yesteryear, and while demand will increase it won’t be the same as it was unless the guidelines change substantially.

Gray High Rise Buildings

Image Source: Pexels

With improving economic fundamentals, you have an overvalued stock market. The vast majority of investing has been price agnostic, think index funds, and the speculation we see in almost every asset class. Higher interest rates pressure the prices you are willing to pay because the opportunity cost or discount rates increase. This is most noticeable on longer duration assets such as long-term bonds, or overpriced growth stocks, where most of the earnings are expected to occur far into the future. Yesterday the Nasdaq was down nearly 4%, which was the biggest selloff in 4 months. Naturally, that drags down other stocks too, but from a business perspective, we are invested in companies that should actually earn more money when interest rates rise. That is a huge difference and it is why I believe we can see strong performance over these next 5 years, even if the overall market is flat or negative, which I think is very likely due to the starting valuations.

A negative scenario for us would be more lockdowns. Reopening and higher rates are good, lockdowns are bad for us from an investment standpoint. I had a conversation with someone about index funds the other day and they rightly pointed out just how well they have done over the last decade particularly. Keep in mind that after 2000, it took 12-14 years, depending on the index, to get back to even. I reference 2000 because it is the only time stocks were more expensive than now. When that bubble collapsed, value went on a historic run and I believe the stage is set once again.  After 1929 until WW2, and from the late ’60s to the early ’80s, the indices had similar decade-long periods where they were negative. 

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