Veteran investor Geoff Wilson says further rises in US bond yields could spell the end of the longest bull market in history.
On Friday, the 10-year Treasury bond yield hit a fresh seven-year high of 3.23 per cent on the back of US employment data. While the job numbers came in well below expectations, earnings were higher and the unemployment rate fell to its lowest level since 1969.
Mr Wilson, chairman of Wilson Asset Management, said the 10-year yield could rise as high as 5 per cent, and that could bring an end to the long bull market.
“In the US, we’ve had the longest bull market ever and we’ve had monetary policy which has pushed various valuations to unsustainably high levels,” he said.
“There’s been a couple of other periods in history where you’ve had full employment and elevated M2,” Mr Wilson said. M2 is a calculation of the money supply that includes cash and chequeing deposits, savings deposits, money market securities, mutual funds and other time deposits.
“In those periods, the consumer price index (CPI) rose above 4 per cent and the 10-year went above 5 per cent and I think we’re in a similar situation. Early next year, CPI will be above 3 per cent, which will push 10-years higher. They could go as high as 4 per cent to 5 per cent.
“That will lead to further rate hikes from the Fed, and while equity markets tend to perform reasonably when interest rates start rising, they tend to not perform too well when they continue to rise.”
All three US benchmarks closed lower on Friday, as investors sold off to reinvest in safer assets. The Nasdaq Composite took a 1.2 per cent hit, the Dow Jones Industrial Average closed 0.7 per cent lower while the S&P 500 fell 0.6 per cent.
Senior investment consultant at Charles Schwab Australia, Lachlan McPherson, said the Federal Reserve would likely be cautious about the impact that rising bond yields could have on the equity market, but there were no guarantees.
“We don’t believe the Fed has a desire to hurt stock prices, but the possibility of a monetary policy mistake adds to our belief that a neutral stance on US stocks remains appropriate,” Mr McPherson said.
The jump in bond yields came against an extraordinary backdrop across global markets.
European shares also took a hit in the back end of last week with the benchmarks in London, Frankfurt and Paris all closing at least 1 per cent lower.
Emerging markets continue to remain under pressure too, with the MSCI Emerging Markets Index hitting a 17-month low on Friday as investors looked to exit riskier markets in favour of bonds.
“Emerging markets are being negatively impacted by the higher rates and the direction of the US dollar,” said JPMorgan Asset Management market strategist Kerry Craig.
“It’s still a case of different strokes for different folks and not all emerging markets have the same troubles. Broadly the higher yields are unfavourable for the higher levels of external debt for some countries and that has already been a worry for emerging market investors.
“The higher oil price also makes life difficult for countries with current account deficits such as India, which is a net importer.”
The Indian rupee has been one of the worst affected currencies in recent months and fell to a record low on Friday after the Reserve Bank of India surprised the market by keeping its key interest rate on hold. The rupee has fallen 13.9 per cent for the year to date.
All five of the FAANG technology stocks in the US – Facebook, Amazon, Apple, Netflix and Alphabet (Google) – closed the session lower and are expected to be weaker this week after a report by Bloomberg Businessweek revealed that Chinese spies had placed computer chips inside equipment used by multiple US companies and government agencies.
Chinese technology stocks fell sharply in Hong Kong on Friday. Lenovo shares fell 15.1 per cent while the state-owned ZTE closed 11 per cent lower. China’s Shanghai Stock Exchange was closed last week for a national holiday.
The rising US bond yields may also affect Australia’s fixed income, a move that could in turn put pressure on the RBA to drop rates as the banks faced increased funding pressures.
“Australian bond yields may go up a bit as US yields rise but they are likely to continue to lag, given that the lagging Australian economy means that the RBA will remain on hold with some chance of a rate cut,” AMP Capital chief economist Shane Oliver said in a note on Saturday.
“However, the rise in US and global bond yields adds to the risk of more out-of-cycle bank mortgage rate increases as global funding costs rise (with banks getting around 35 per cent of their funding from sources other than deposits). Of course, if out-of-cycle mortgage rate hikes become a problem for the Australian economy, it will provide a reason for the RBA to cut the cash rate to pull mortgage rates back down,” Dr Oliver said.