By Tom Burnett CFA
It appears that interest rates have begun to stabilize at higher levels than were recorded in March and April. We attempt to monitor rates by looking at the market yields on the ten-year and 30-year Treasury notes and bonds. The Federal Reserve has made it clear that its formal policy is the goal of near-zero short-term rates. Long-term rates, however, are driven by inflation expectations and by the need for mortgage funds and corporate capital investment demands.
The near-term trends reflect the upward pressure on rates since the March and April lows. For example, the ten-year Note yielded 0.49% on March 6 and is now yielding 0.69%. The 30-year bond yield was 0.93% on March 9 and is now trading at a yield of 1.46%. Interest rates have moved higher along with stock prices as investor confidence about a strong economic recovery from the virus lockdown has grown.
Equity investors need to watch interest rate movements closely since rising rates can curb overall economic growth and depress corporate profits. In addition, rising rates make alternative fixed-income investments more attractive. Currently, the dividend of 2.0% on the stocks in the S/P 500 Index is higher than the yield offered by the ten-year Note which attracts investor funds away from the fixed-income universe. As rates rise, investor flows may move from stocks to notes and bonds, putting pressure on stock market performance.