What rising rates mean for the stock market

The stock market has been keeping investors on their toes lately, and Friday was no exception. After spending much of the morning in positive territory, most of the major market benchmarks retreated in the early afternoon. Starting at 12:30 p.m. EDT, the Dow Jones Industrial Average (DJINDICES: ^ DJI) was down 6 points to 34,749. S&P 500 (SNPINDEX: ^ GSPC) had lost 2 points to 4,397, and the Nasdaq Composite (NASDAQINDEX: ^ IXIC) yielded 48 points to 14,606.

The bond market made bigger moves on Friday. Interest rates have continued to rise with the fall in Treasury bond prices, and many investors expect the uptrend to continue. Below, we’ll take a closer look at what’s going on in the bond market, and whether equity investors have reason to be concerned – or can seize potential opportunities.

Image source: Getty Images.

Gradual movements for interest rates

Movements in the bond market tend to be quite small. Nonetheless, they can have a huge impact.

For example, on Friday, the yield on 10-year Treasuries rose only three hundredths of a percentage point. However, this put the yield above the 1.60% mark for the first time in four months, reversing a summer bond market rally that briefly sent yields below 1.20%.

Other bonds have seen similar movements. Yields on 30-year Treasuries climbed four hundredths of a percentage point to 2.17%. Five-year Treasury bonds rose three hundredths of a percentage point to 1.05%, reaching their highest level since early 2020.

Meanwhile, at the shorter end of the yield curve, interest rates have remained at very low levels. Three-month, six-month and 12-month Treasury bills all returned less than 0.10%.

Small as the daily moves are, they have built up as investors prepare for the next step in the management of Federal Reserve monetary policy. Over the past year, the 10-year Treasury yield has more than doubled and the five-year yield has more than tripled.

Perhaps the biggest surprise is that bond yields rose, even after bad news on the economic front. The Bureau of Labor Statistics released its latest employment figures, and the US economy produced just 194,000 non-farm jobs during the month of September. This was well below the 500,000 new jobs most economists expected, and although the unemployment rate has fallen four-tenths of a percentage point to 4.8%, unemployment levels remain above what they were before the start of the pandemic.

Where actions get help

Higher interest rates raise fears of a drag on economic activity, but they are still good for some sectors. In the banking industry, the combination of higher long rates and persistently low short rates widens net loan interest margins, which is generally good news for profits.

It is therefore not surprising to see major banking stocks continue to recover. Morgan stanley (NYSE: MS) recorded the largest gains, up more than 1%, but more modest increases were visible for large consumer banks like Bank of America (NYSE: BAC), JPMorgan Chase (NYSE: JPM), and Wells fargo (NYSE: WFC).

Nonetheless, higher rates have also been blamed for the poor performance of tech stocks in recent times. Start-ups need access to cheap capital, and they also need time to generate profits in the future. Higher rates mean that those future profits are discounted, which puts a strain on stock prices.

It’s important to keep in mind that even with recent gains, interest rates are still at historically low levels. Still, many investors are focusing more on trends, and it’s entirely possible that rates will rise a bit more in the future.

This article represents the opinion of the author, who may disagree with the “official” recommendation position of a premium Motley Fool consulting service. We are motley! Challenging an investment thesis – even one of our own – helps us all to think critically about investing and make decisions that help us become smarter, happier, and richer.

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