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Well it’s been quite some time since the Doc posted an update on the state of the markets and that’s simply because not a lot had changed for a few months.  We left off in our last update highlighting potential disruptors to stock gains, which largely entailed rising long term rates.  It took a few months but finally 10 year yields breached a threshold level that has caught the eye of stock investors. The significant breach of the 3% benchmark yield following the Fed’s last rate hike, along with continued robustness in the employment market and general economic strength across the board, simply has warranted a shift up in yields across maturities.

The significance of the current level of interest rates or should we say shift in the yield curve, is that this scenario has finally mitigated the zero rate policy that has been causing mal-investment for almost a decade.  This mal-investment period involved investors searching for yield anywhere they could find it, where much was allocated to a non-stop bull in equities.  We are now entering the beginning of a more normal investment horizon where investors have more options to achieve yield.  The problem with this scenario however, is that the character of the Equity sector, which experienced limited downside and impressive constant upside, should change given higher moves in interest rates. 

I did research on this topic two decades ago, which identified the sensitivity of stock indexes to rising treasury yields and depicted a strong non-linear elasticity curve…see article T-bond yields and equities: A nonlinear relationship.  The levels at that time depicted long term yields in the area of 6%, however the current situation is different.

The tricky scenario the markets are facing now is that economic activity is robust and the likelihood of rising prices is very high in the near future.  The problem is that many facets of the economy are so sensitive to a higher rate structure, where only small moves can disrupt risk parameters from real estate to funding debt, to maintaining pension solvencies to name a few.

The Doc is back and will be posting more frequent content given the resurgence of a more normal investment structure….one where economic and business policies need to be balanced more with interest rate policy and a slow deleveraging of equities in many areas.  My latest publication which address the use of AI to estimate market risk, sheds a little light on what’s in store for the future AI and Digital Resources in Fintech: Creating an evolutionary analytic platform for “risk” estimation

It’s good to be back !!!


Stephan Kudyba (MBA, PhD)                      THE MARKET DOCTOR


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