Although reasonable, worries that high and rising Treasury yields would have a significant negative impact on Wall Street are ultimately unfounded. History demonstrates that the relationship between products and equities is, at best, shaky and seldom exists.

Bond rates have increased dramatically since July, which has caused a 10% decline in stocks, but after this short-term correction, the prognosis is more positive.

While the optimistic 2024 view has held up well—advisors are still projecting profit growth of around 12%—the third quarter results season has already begun and reveals a profit increase of about 5%.

That is in a scenario where bond rates have risen more than 100 basis points in the previous three months to the highest level since 2006–07, and the yield curve as a whole has lately temporarily traded over 5.00%.

Additionally, credit spreads have stayed relatively restrained, suggesting that corporate America is managing the sharp increase in bond yields very well.

Despite being perplexing to several observers, this is more often the case than not. Equities will perform well if solid economic growth drives up the cost of money, but they will face a more significant but manageable challenge if growth is weak and the price of capital and inflation are both high.

According to Stuart Kaiser, head of equities trading strategy at Citi, “there is basically no relationship between the average level of yields and S&P 500 returns over the past 60 years, at least at a quarterly frequency.”

“It’s getting to those new higher levels that hurts.” In the graph below, Kaiser and colleagues show the connection between typical quarterly S&P 500 returns and typical 10-year rates for each quarter starting in 1962. It is pretty challenging to identify any patterns if there are any.

Since 1999, there has been a similarly erratic relationship between real yields and equity returns.

NOTHING TO DOOM

The indication that high bond rates provide for equities may vary depending on the cause of their rise. Equities may suffer if rates are high because of concerns about inflation; usually, equities will perform better if yields are high because of robust growth.

Right now, investors can find themselves torn between the two ideologies.

The 10-year Treasury yield has increased by half a percentage point or more in 66 months since 1962, according to research by Callie Cox, an investment expert at eToro. Twenty months saw the S&P 500 decline, one saw no change in value the year after, and forty-five saw a rise.

Using a slightly different data slice, Cox finds that, since 1962, there have been 50 three-month intervals, including the August–October period of this year, during which the 10-year yield has increased by half a percentage point or more. The performance of the S&P 500 rose 35 times, decreased 14 times, and remained unchanged once throughout the next 12 months. The 12-month return on average was 8.1%, while the 12-month return on median was 12.1%.

“Rising rates don’t necessarily need to doom the stock market,” Cox asserts. When rates rise, investors become uneasy because they feel the earth is shifting under their feet. However, in the long run, greater yields often indicate a more robust economy and growing profitability.”

But the recent drops in the Nasdaq and Russell 2000—which were more affected by the risk-free rate—show that the rate of change in yields can be alarming. The Nasdaq fell 12% in the three months ending in October, and the Russell 2000 fell over 20%.

This underperformance of the Russell 2000 over the S&P 500 is the biggest since 2001.

According to an analysis by Truist Advisory Services, the 10-year Treasury yield averaged 6.2%, the 3-month T-bill averaged 5.0%, and inflation averaged 3.8% between 1950 and 2007, right before the Great Financial Crisis devastated rates for 15 years.

What is the annualized compounded return of the S&P 500 for the whole period? 11.9 percent.

“Stocks and companies historically have adapted and done just fine in a higher rate and inflation backdrop than what we all became accustomed to over the period following the GFC,” a letter from Truist on Oct. 23 stated. Maybe all this indicates is that equities generally rise every year. However, those years also saw periods of high and growing bond rates.