US Bond Yield Surge Threatens Stock Market With Potential 20% Correction
US Treasury bond yields have been signaling a warning to investors in recent weeks, with ten-year and thirty-year yields climbing to 4.8% and 5.25% respectively. Expectations for rapid interest rate cuts have been repeatedly pushed back, and the market is now pricing in a potential US rate hike. Historically, rising government bond yields make them a more attractive alternative to stocks and simultaneously increase corporate borrowing costs, both factors that dampen demand for equities. Despite these warnings, stock market indices in the US have continued to rise, with the S&P 500 up 12.75% and the Nasdaq 100 up 17% year-to-date. This rally has overshadowed the risks posed by bonds, but historical patterns suggest that stock market corrections, often foreshadowed by bond market movements, can be swift.
Israeli savers are also exposed to this risk. The direct exposure of some Israeli pension and provident funds to foreign equity markets, particularly in the US, has been significant, reaching up to 70% in some institutions. A stock market correction triggered by rising bond yields could therefore have a much broader impact on Israeli retirement funds than direct losses on bonds alone.
The rise in US government bond yields is attributed to a confluence of factors. Firstly, US inflation is not receding as quickly as investors had hoped, preventing the Federal Reserve from aggressively cutting interest rates, which currently stand between 3.5% and 3.75%. Secondly, the US government needs to raise substantial funds to finance its deficit and public debt, leading to a larger supply of bonds that requires higher yields to attract investors. This is compounded by a wave of corporate debt issuance from companies funding massive investments in artificial intelligence (AI).
Investment managers note that the increased supply of bonds, including those issued by tech giants like Google, Amazon, and Microsoft for data center construction and AI development, competes with government bonds. Furthermore, some foreign investors are reducing their reliance on the US market, further pressuring demand. While inflation is moderating in Israel, allowing for potential interest rate cuts, the high-interest rate environment in the US poses risks to the stock market. However, some see potential growth and profitability for companies investing in AI. Some analysts suggest that a ten-year Treasury yield reaching 5.5% could trigger a sharp stock market correction of 15% to 20%, with sectors like real estate, REITs, and leveraged companies being particularly vulnerable, while banks and financial firms might benefit from wider interest margins.
