A swift pullback in stocks is never fun, but seasoned investors know they aren’t unusual. Since 1950, the S&P 500 Index2 has experienced corrections on a regular basis.
The Dow Jones Industrials fell 831 points, or 3.3%, on Wednesday (WSJ). Thursday saw a 546-point drop. A 1,175-point decline (4.6%) on February 5, followed by a 1,032-point drop (4.2%) on February 8, are the largest (St Louis Federal Reserve).
The fundamentals really do matter (until they don't).
1. The economy is expanding at a solid pace; recent data have been strong.
2. Q1 and Q2 profits were strong and Q3 is looking very upbeat
3. Inflation isn't showing signs of accelerating.
4. Interest rates remain low (10-year Treasury at levels not seen since the late 1950s, excluding recent years).
The yield on the 10-year Treasury bond is approaching 3.25% (MarketWatch), the highest since May 2011 (St. Louis Federal Reserve).
The recent spike in Treasury yields has created modest volatility in the major market averages, though the Dow Jones Industrial Avg1 remains near its peak.
How do rising and falling Treasury yields impact stocks? A recent study that reviews monthly changes in the 10-year yield and the S&P 500 Index2 from April 1953–June 2013 sheds some light.
Monthly S&P 500 performance in rising and declining yield environments
|| No. of months
|| Avg monthly S&P 500 return
| 10-Year Yield Down
| 10-Year Yield up
Source: S&P Dow Jones Indices: Much Ado About Interest Rates. Data through June 2013. Charts are provided for illustrative purposes. Past performance is no guarantee of future results.
Historically, rising yields have hindered performance.
The study also revealed that sharp increases in yields were most negative for stocks. Moderate increases in yields didn’t detract from performance.