FYI | Jul 12 2007
By Greg Peel
There is a simple Finance 101 formula which dictates that when the return on bonds exceeds the return on equity then the market will sell stocks and buy bonds. Market watchers in the US suggest this point will be reached in the current US market if 10-year bond yields sustain levels over 5.25%.
US 10-year yields leapt through the psychological 5.00% mark last month and have flirted with levels above 5.20% or below 5.05% on an almost day to day basis ever since. There is a lot of talk about official foreign money being pulled out of US Treasuries, but the reality is the net trend is still up. This largely leaves the reason for increasing bond yields as a concern about global inflation.
This should be a red rag to the bulls. Inflation is the enemy of a rising stock market as it implies tighter monetary policy ahead which brings us back to Finance 101. When bond yields rise, traders sell stocks.
So what on earth has been going on on Wall Street these past two days? On Tuesday night bond yields collapsed from around 5.15% to 5.04% and the Dow fell 142 points while last night yields rebounded to 5.08% and the Dow rallied 76 points. The market is not sticking to the script.
A wider discussion of this phenomenon will follow in a story later this morning.
In the meantime, the US dollar largely trod water last night and the oil price slipped slightly. This led to a slight pullback in precious metals (as bond yields rallied) while in the base metal spectrum nickel and zinc both picked up 2% in New York.
The SPI Overnight rallied 25 points.