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Economic Review

2/22/2010

Can US Stocks weather higher Yields in Treasuries?

This past week involved a surprise move by the Fed in the form of increasing the discount rate…an action that many see as a beginning to a tightening mode for the US….one that is way overdue to many.  The question at this point however is, will the Fed begin to notch up the Fed Funds target rate which should result in higher Yields for longer dated securities? And will US Stocks be able to continue their bullish ways in the face of rising rates?  Wow…big questions.

Firstly, we need to put these hypotheticals in context.  Remember, if the Fed raises the target Fed Funds rate, it’s really no big deal until the level begins to exceed about 2% (and that’s a long way away), otherwise it’s just window dressing.  So the answer to the first question, will the Fed begin an aggressive tightening stance…not likely in the medium term.  However that doesn’t mean that Yields of longer dated securities won’t go up.  Remember, there has been ample news regarding the potential of China to reduce their allocations to US debt.  Let’s answer the higher longer term rate question with…if 10 Year Yields can get up above 4% over the next couple of weeks (which is not a big move), the likelihood is for continued higher longer term rates, which would begin to suck the steam out of Stocks.

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