ORLANDO, Fla. – The specter of higher inflation, interest rates and bond yields usually spells trouble for stocks. But Wall Street continues to scale new peaks, driven by the increasingly entrenched phenomenon of sub-zero real yields.
The inverse relationship between the fall in US Treasury Inflation-Protected Securities’ ‘real’ yields to record lows and major US equity indexes grinding to new highs has strengthened substantially in the last six months.
It has been one of the few constants as Wall Street has hurdled several obstacles it might normally stumble on: historically high inflation and inflation expectations; the Fed tapering and preparing to raise rates; spiking bond market volatility; flattening and even inverted yield curves.
Long-held priors about these relationships are being questioned, and the stakes could not be higher: US inflation is the hottest in over 30 years, the Fed still thinks it is “transitory”, but pressure on policymakers is intensifying.
There are bumps in the road, but equity markets march on. Low long-term bond yields lower the discount rate that’s used to value companies’ future cash flows in today’s stock price – any backup in the discount rate redraws the map for equity along with the damage from related tightening of credit.
