(Bloomberg) — For years it’s gave the look of nothing could stop the stock market’s inexorable march higher, because the S&P 500 Index soared greater than 50% from the beginning of 2023 to the top of 2024, adding $18 trillion in value in the method. Now, nonetheless, Wall Street is seeing what can ultimately derail this rally: Treasury yields above 5%.
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Equities traders have shrugged off the bond market’s warnings for months, focusing as a substitute on the windfall from President-elect Donald Trump’s promised tax cuts and the seemingly limitless possibilities of artificial intelligence. But the chance got here into focus last week as Treasury yields climbed toward their ominous milestones and share prices sank in response.
The yield on 20-year US Treasuries breached 5% on Wednesday and jumped back above on Friday, reaching the very best since Nov. 2, 2023. Meanwhile, 30-year US Treasuries briefly crossed 5% on Friday to the very best since Oct. 31, 2023. Those yields have risen roughly 100 basis points since mid-September, when the Federal Reserve began reducing the fed funds rate, which has come down 100 basis points over the identical time.
“It’s unusual,” Jeff Blazek, co-CIO of multi-asset strategies at Neuberger Berman, said of the dramatic and rapid jump in bond yields within the early months of an easing cycle. Over the past 30 years, intermediate and longer-term yields have been relatively flat or modestly higher within the months after the Fed initiated a string of rate cuts, he added.
Traders are watching the policy-sensitive 10-year Treasury yield, which is the very best it’s been since October 2023 and is rapidly approaching 5%, a level they fear could spark a stock market correction. It last passed the brink briefly in October 2023, and before that you will have to return to July 2007.
“If the 10-year hits 5% there might be a knee-jerk response to sell stocks,” said Matt Peron, Janus Henderson’s global head of solutions. “Episodes like this take weeks or possibly a number of months to play out, and over the course of that the S&P 500 could get to down 10%.”
The explanation is fairly easy. Rising bond yields make returns on Treasuries more attractive, while also increasing the fee of raising capital for firms.
The spillover into the stock market was apparent on Friday, because the S&P 500 tumbled 1.5% for its worst day since mid-December, turned negative for 2025, and got here near wiping out all of the gains from the November euphoria sparked by Trump’s election.
While there’s “no magic” to the fixation on 5% beyond round-number psychology, perceived barriers can create “technical barriers,” said Kristy Akullian, Blackrock’s head of iShares investment strategy. Meaning, a swift move in yields could make it difficult for stocks to rise.
Investors are already seeing how. The earnings yield for the S&P 500 is sitting 1 percentage point below what’s offered by 10-year Treasuries, a development last seen in 2002. In other words, the return on owning a significantly less dangerous asset than the US equities benchmark hasn’t been this good in an extended time.
“Once yields get higher it becomes harder and harder to rationalize valuation levels,” said Mike Reynolds, vice chairman of investment strategy at Glenmede Trust. “And if earnings growth starts to falter, there may be issues.”
Not surprisingly, strategists and portfolio managers predict a bumpy road ahead for stocks. Morgan Stanley’s Mike Wilson anticipates a troublesome six months for equities, while Citigroup’s wealth division told clients there’s a buying opportunity in bonds.
The trail to five% on the 10-year Treasury became more realistic on Friday after strong jobs data caused economists to scale back expectations for rate cuts this yr. But this isn’t just concerning the Fed. The selloff in bonds is global and based on sticky inflation, hawkish central banks, ballooning government debts, and extreme uncertainties presented by the incoming Trump administration.
“Whenever you’re in hostile waters, yields above 5% is where all bets are off,” Mark Malek, chief investment officer at Siebert, said.
What equity investors have to know now’s if, and when, serious buyers step in.
“The true query is where we go from there,” said Rick de los Reyes, a portfolio manager at T. Rowe Price. “If it’s 5% on its solution to 6% then that’s going to get people concerned, if it’s 5% before stabilizing and ultimately going lower then things might be fantastic.”
The important thing isn’t a lot that yields are rising, but why, market pros say. A slow increase because the US economy improves may help stocks. But a fast jump because of concerns about inflation, the federal deficit and policy uncertainty is a red flag.
Lately, every time yields have risen quickly, stocks have sold off. The difference this time appears to be complacent investors, as seen in bullish positioning within the face of frothy valuations and uncertainties about Trump’s policies. And that’s putting equities in a vulnerable position.
“Whenever you take a look at rising prices, a powerful job market and an overall strong economy, all of it points to a possible uptick in inflation,” said Eric Diton, president of the Wealth Alliance. “And that’s not even including Trump’s policies.”
One area which will prove to be a haven for equity investors is the group that’s been driving a lot of the gains these past few years: Big Tech. The so-called Magnificent Seven firms — Alphabet Inc., Amazon.com Inc., Apple Inc., Meta Platforms Inc., Microsoft Corp., Nvidia Corp. and Tesla Inc. — are still posting rapid earnings growth and large money flows. Plus, trying to the long run, they’re expected to be the most important beneficiaries of the substitute intelligence revolution.
“Investors typically seek top quality stocks with strong balance sheets and powerful money flows during market turmoil,” said Eric Sterner, chief investment officer at Apollon Wealth. “The mega techs have develop into a part of that defensive play recently.”
That’s the hope many equity investors are hanging on, that mega-cap tech firms’ sway over the broader market and their relative security will limit any weakness within the stock market. The Magnificent Seven have a greater than 30% weighting within the S&P 500.
At the identical time, the Fed is within the midst of lowering rates of interest, although the pace is probably going going to be slower than expected. That makes this a really different situation than 2022, when the Fed was mountaineering rates rapidly and indexes plunged.
Still, many Wall Street pros are urging investors to proceed cautiously in the intervening time as rate risk hits in various unexpected ways.
“The businesses within the S&P 500 which can be up essentially the most will probably be essentially the most vulnerable — and that would include the Mag Seven — and a few frothy areas of mid-cap and small-cap growth will likely be under pressure,” said Janus Henderson’s Peron. “We’ve been consistent across our firm on staying focused on quality and being valuation sensitive. That might be very essential in the approaching months.”
