Bond yields have risen sharply this year; stock-pickers are shifting away from glitzy tech stocks that have gained value during the pandemic and into shares of companies that will be strengthened by a reviving economy, such as airlines and hotels.
With another deluge of stimulus money on the way, the markets’ message is clear, analysts say: inflation is on the rise.
Not one cranny of the bond market is suggesting that inflation’s rise will not be prolonged or severe.
The message lies in the difference in yields between ordinary five-year Treasury bonds and a special category of five-year Treasuries protected against inflation (TIPS).
The difference between the two yields shows break-even inflation expectations rose about 2.4 percent last week, their highest level since May 2011, a clear signal inflation is about to be triggered.
However, shorter-term break-even rates are higher than those of longer terms – a rare event known as an inversion in the break-even curve.
When investors are more concerned about inflation in the near term than further away, it indicates that a spike in inflation is likely to fade relatively quickly.
For example, ten-year break-even rates were 2.15 percent on 26 February, compared to the 30-year rate of 2.1 percent.
The five-year rate, 2.4 percent on that date, has not exceeded the ten-year rate since July 2008, according to the data firm FactSet.
The signal is read by some to mean that the new $1.9-trillion stimulus program will shoot prices up in the near future, but prices will settle back down once the money is spent.
Another interpretation says that the U.S. Federal Reserve, contrary to its promises, will hike interest rates quickly to tackle inflation if the rate zooms past 2 percent and shows signs of rising higher.
This view is supported by the Fed futures market, where the chance of the Fed raising interest rates by a quarter of one percent in September is now pegged at only 11 percent. The bet was zero percent a month ago.
TRENDPOST: There are at least two sides to the rising bond yields, as fears increase that with equities hitting all-time highs, market risks persist. Now with the spike in bond yields, which many on The Street believe signals higher inflation, the Fed will begin to raise interest rates and slow down their $120 billion of bond buying each month, which will, in turn, have investors pull out of equity markets, thus crashing the markets.
Indeed, what has helped prop up equities is the $414 billion that flowed into equities in just two weeks, as Egon von Greyerzn noted. This is two times the 2018 peak of $200 billion, which was a record-high back then.
