by David Randall

NEW YORK (Reuters) – The rally that Wall Street has benefited from since the start of the year has lost ground as bond yields have risen.

Equity markets have resisted higher Treasury yields for weeks on expectations of further monetary policy tightening from the Federal Reserve.

However, observers warn that the yields are reaching a dangerous zone where equities are losing interest very quickly. The six-month Treasury bill is at its highest level in almost 16 years, yielding more than 5% on an asset that many consider much safer than stocks.

“All of a sudden, inflation is a little bit higher than we thought and the Fed seems to want to keep raising rates, which is a headwind for stocks when short-term bonds can yield 5%,” says Jonathan Golub, head of US market strategy at Credit Suisse.

The Standard & Poor’s-500 fell 4.4% from its recent highs but remains up 4.1% since the start of the year. The benchmark index of Wall Street had its worst session of the year on Thursday with a decline of 2%.

The yield on 10-year Treasuries, which move inversely to price, has climbed about 60 basis points since its low in January.

Some strategists warn of a ‘no-landing’ scenario in which the Fed would not be able to slow the economy, forcing it to opt for further rate hikes, resulting in bond yields even higher.

BlackRock has decided to increase allocations to short-term US bonds, while maintaining exposure to developed market equities at “underweight” and increasing exposure to emerging markets.

“Fixed-rate bonds finally offer income after soaring yields globally,” note the strategists of the world’s number one asset manager. “It has boosted the appeal of bonds after years of deprivation.”

POOR BENEFIT/RISK RATIO FOR EQUITIES

According to the CME Group’s “FedWatch” barometer, the markets estimate at 24% the probability that the Fed raises the target of the “fed funds” rate by half a point at its meeting on March 22 while this option does not was not considered at all a month ago.

Morgan Stanley analysts noted on Tuesday that the equity risk premium – which is a stock’s potential return relative to government bonds – fell to levels not seen since 2007 due to rising returns and likely disappointments in future corporate earnings.

This is a “death zone” that makes the balance “risk-reward very bad” for stocks, said Michael Wilson at Morgan Stanley. “We think the risks are extreme today and almost impossible to justify by any argument one could invent.”

Jonathan Golub at Credit Suisse is bullish on non-US stocks, which he says are trading at more attractive valuations as rising yields and inflation could put pressure on US corporate costs.

The Stoxx 600 has an estimated price-to-earnings ratio of 12.8, lower than the S&P 500’s 18.2 and the Japanese Nikkei’s 15.4.

“If you go outside the United States, you can get better underlying earnings growth for less money,” insists Jonathan Golub.

But long-term investors have history on their side: The years in which the S&P 500 rose in January saw an additional gain over February-December 83% of the time, with an average rise of more than 11%. over 11 months, according to CFRA Research. In January, the S&P 500 gained 6.18%.

Elizabeth Burton, strategist at Goldman Sachs, expects rising yields to weigh on tech stocks.

She believes at the same time that many investors may be reluctant to part with their stocks after the sharp decline of 2022, during which the S&P-500 fell by 19.4%.

“The environment is becoming more and more favorable to ‘stock picking’ (selection of securities, editor’s note) because we cannot count on a rising tide which would lift all the boats”, she summarizes.

(Report David Randall, Laetitia Volga, edited by)

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