The real, or inflation-adjusted, yield on the 10-year Treasury note intermittently went above zero late Tuesday and early Wednesday for the first time since the pandemic began more than two years — which amounts to bad news for investors in speculative and risky assets.
Those likely to get hurt the most are investors in initial public offerings; special-purpose acquisition companies, or SPACS; emerging-market debt; and, of course, equities, said John Silvia, founder and chief executive of Dynamic Economic Strategy in Captiva Island, Fla. The reason is that a positive real yield essentially signals that the price distortions which allowed those investors to benefit from the Federal Reserve’s easy-money stance since March 2020 are finally going away, he said.
“Investors who are in those assets and have been since June of last year are now, for the most part, underwater,” Silvia, the former chief economist at Wells Fargo & Co., said via phone on Wednesday.
Archive: Falling real yields are a key to the stock-market rally: What investors need to know (Nov. 22, 2021)
“The key is that real interest rates, not nominal yields, drive real investments and equity investing,” he said.
“Now there’s a change in the cost of capital for some businesses, which means there will be slightly less investment and a better rationale for equity prices,” Silvia explained. “You get less speculation and price distortion from the amount of liquidity the Fed put in, and more rationale. People who took in more speculative investments are going to face losses. It had to happen sooner or later, but it’s too bad it didn’t sooner. You’ve now got too many SPACs, too many stocks, and too much inflation.”
The real yield on the 10-year Treasury — as reflected by the rate on Treasury inflation-protected securities, or TIPS — went briefly above zero in late intraday trading Tuesday for the first time since March 2020, according to Tradeweb. The rate then went briefly positive again in Wednesday’s early intraday trading, though it hovered around minus 0.032% as of this morning, Tradeweb data showed.
The chart below shows where the rate stood as of Tuesday, when all real yields moved higher.
The primary reason for the real yield’s recent ascent from negative territory — and, indeed, the steep climb in Treasury yields generally — is the Fed’s intent to start backing off its easy-money stance in a perhaps more aggressive manner than previously thought. That intent was supported by remarks earlier this week from St. Louis Fed President James Bullard, who signaled that he wouldn’t rule out the prospects of a jumbo-sized 75 basis point rate increase, though a hike bigger than 50 basis points wasn’t his “base case.”
To be sure, a positive real yield is regarded by many as a reliable gauge of future growth prospects and, for investors of 10-year Treasurys, as a chance to earn real returns.
Asreal yields have risen, so too has the nominal 10-year rate
which topped 2.9% for the first time since December 2018 on Tuesday, but then backed off on Wednesday. U.S. stocks also continued to trade mostly higher on Wednesday morning, with the Dow Jones Industrial Average
up more than 200 points, or 0.7%, while the S&P 500
was marginally positive.
“Investors have struggled to make sense of risk assets’ resilience in the face of an ever more apparent need for aggressive central bank tightening,” said Matt King, global markets strategist at Citigroup, in a note.
“The hope is that it reflects strong underlying fundamentals, and the likelihood that tightening need only be bad for bonds. But investors should focus less on the supposed significance of real yields, and more on the liquidity flows. The reality is that tightening hasn’t really started yet.”