Weekly Market Update: October 30, 2023
Treasury market yields are on the rise, hitting their highest level since 2007. The biggest movement has come on the long end of the curve, with the yield on the 10-year Treasury note recently topping 5.00%. Hawkish comments on monetary policy from Federal Reserve officials, including Chairman Jerome Powell at a mid-October economic symposium in New York, and a still-tight labor market are putting upward pressure on fixed-income yields.
The jump in real interest rates bears watching. The real interest rate is the rate of interest an investor, saver, or lender receives after adjusting for inflation. Since mid-July, real interest rates have climbed more than two full percentage points. Higher real interest rates increase borrowing costs, which can cause businesses and individuals to curb spending and borrowing and, in turn, slow economic activity. On point, the rate on the 30-year fixed mortgage recently topped 8.00%, which is hurting existing home sales and the number of new mortgages.
Rising rates have been momentum-sapping “kryptonite” for the higher-growth stocks. That is because higher-growth, but often less profitable, companies are valued on their future cash flow potential. When their cash flows are discounted back to the present at the higher rates, it reduces their intrinsic value and makes the companies less appealing to investors. Intrinsic value is the measure of what an asset is worth.
Meanwhile, earnings season has produced minimal surprises, at least in its early stages. The expectation coming into reporting season was that profits for S&P 500 companies as a whole would be relatively flat. However, such mostly in-line results have been accompanied by less sanguine economic outlooks from a few prominent executives, including Jamie Dimon of money center bank JPMorgan Chase and Elon Musk of electric vehicle producer Tesla.
Then there are the escalating global geopolitical tensions, including wars in the Middle East and Ukraine. These conflicts may result in global supply-chain interruptions, including in key energy markets. This could potentially push commodity prices higher and make the Fed’s task of bringing down overall inflation even more challenging.
Conclusion: A higher interest-rate environment is typically not supportive for the performances of stocks and bonds. Thus, we recommend exercising caution in this environment.