Weeks of sustained selling in US Treasuries have left Wall Street facing a fresh challenge.
Although Friday's unexpectedly weak September US jobs report briefly pushed Treasury yields lower and sparked a rebound in US stocks, the bond market rally did not last.
With the 10-year Treasury yield holding above 5%, investors are beginning to focus on a question that may matter more than short-term market swings: if US borrowing costs stay elevated for an extended period, what will be the impact on the economy and financial markets?
Friday's data showed that US nonfarm payrolls rose by only 29,000 in September, while the unemployment rate edged higher, and the clearly weak employment performance prompted traders to cut bets on further Federal Reserve rate hikes.
Still, Treasury yields subsequently steadied, with the 10-year yield hovering around 5.27% late Friday.
At the same time, the divergence between major US stock indexes and the real economy is becoming increasingly obvious.
Even as the housing market remains sluggish, consumer credit costs climb, and borrowers with weaker credit profiles face greater financing pressure, strong corporate earnings and the artificial intelligence (AI) investment boom continue to support major indexes near record highs.
Brad Conger, chief investment officer at Hirtle & Co., noted that the situation of ordinary US consumers and businesses stands in sharp contrast to areas related to AI and capital spending.
Treasury Yields Hold Above 5% as High-Rate Pressure Spreads Across Multiple Industries
Over the past several weeks, Treasury yields have continued to climb, fueling concerns that financial conditions will tighten further.
Although weak jobs data temporarily eased selling pressure in the bond market, investors still have to confront the reality that high rates may persist for a long time.
Conger believes there is not yet a clear tipping point that would suddenly pressure all assets, but some industries are already feeling the effects of high rates.
He specifically mentioned housing, autos, consumer loans, and credit cards.
These sectors are relatively sensitive to changes in financing costs, and higher borrowing rates directly affect consumers' purchasing power and business operations.
That pressure is also reflected within the stock market.
Although large AI technology stocks continue to support the major indexes, the breadth of the market's advance is narrowing, with sectors such as banks, industrials, and utilities performing relatively weakly.
As of Friday, the S&P 500 had fallen 0.3% for the week, while the tech-heavy Nasdaq 100 had risen 0.7%, reflecting clear divergence among sectors.
Conger pointed out that the risk facing the market is not necessarily that yields suddenly break through some specific level, but that high borrowing costs continue to erode demand and profitability in some industries.
AI Capital Spending Boom Supports US Stocks as Tech Giants Are Less Sensitive to High Rates
Even though high rates are putting pressure on some parts of the economy, some investors on Wall Street still believe the current level of yields may not prevent stocks from rising further.
Nancy Tengler of Laffer Tengler Investments said rising bond yields can sometimes also reflect strong economic fundamentals, and do not necessarily mean the stock market will be severely hit.
She noted that if a company can raise funds at a cost of 5% while earning a 15% to 20% return through investment, then continuing to expand investment still makes economic sense.
Based on that judgment, Tengler recently increased her holdings in technology stocks such as NVIDIA (NVDA.US), Micron Technology (MU.US), and Meta Platforms (META.US), while adding exposure to power infrastructure-related companies including GE Vernova (GEV.US), Eaton (ETN.US), and Quanta Services (PWR.US).
The common feature of these companies is that they can benefit from AI infrastructure construction and related growth in capital spending.
Michael Alfaro, founder of Gallo Partners, also pointed out that despite high borrowing costs, the US private sector's data center investment boom still shows no clear sign of slowing.
He believes the market is watching the possibility of slower future job growth and reduced pressure from energy prices, and expects those changes to eventually help ease inflation.
That partly explains why US stocks have been able to remain resilient in an environment of persistently high financing costs.
Alfaro remains bullish on some companies related to AI and the aerospace industry.
However, continued expansion of AI capital spending also makes US stocks increasingly dependent on a small number of industries.
If returns on those investments fall short of expectations, the market could face new pressure for a correction.
Funds Flow Faster Into Bond ETFs as Investors Rebalance Asset Allocations
As US Treasury yields rise to multi-year highs, investors' asset allocation strategies are beginning to change.
According to data, in September of this year, bond exchange-traded funds (ETFs) absorbed 42% of all ETF inflows, the highest share in more than a year.
This shift shows that as bond yields rise, fixed-income assets are becoming more attractive to investors.
At the same time, some institutions have begun adjusting their previous underweight stance on the bond market.
Carol Schleif of BMO Wealth Management recently halved her underweight position in investment-grade credit but maintained an overweight stance on high-quality US growth stocks.
That means some investors are rebuilding exposure to fixed-income assets while continuing to hold growth companies with strong fundamentals.
Still, risks differ across bond assets.
For borrowers with weaker credit profiles, high rates may increase refinancing pressure, while issuers with higher credit quality usually have stronger financing capacity.
Therefore, in the current environment, higher bond yields both offer investors greater potential interest income and make credit risk and the duration of high rates important considerations in asset allocation.
Short-Term Corporate Debt Pressure Is Manageable, but the Real Test Is How Long High Rates Last
Max Gokhman of Franklin Templeton Investment Solutions believes the market needs to focus not only on the speed of the rise in Treasury yields, but more importantly on the level at which yields eventually stabilize and how long high rates will last.
He pointed out that some borrowers in the US economy are still protected by existing financing arrangements, so the impact of higher rates may take longer to fully appear.
For example, most existing US mortgage borrowers hold fixed-rate mortgages, with an average loan rate of about 4%.
By contrast, the rate on newly issued US mortgages has risen to 7.28%, the highest level since late 2023.
This means existing homeowners do not yet have to bear the same high rates as new borrowers, but consumers preparing to buy a home or needing to refinance face significantly higher costs.
A similar situation exists in the corporate sector.
Data show that only about 13% of US nonfinancial corporate debt, roughly $570 billion, will mature by 2027.
Because most debt has not yet entered the refinancing stage, companies do not have to borrow immediately at current higher market rates.
Gokhman believes that for this reason, only if high yields persist for a considerable period will higher borrowing costs likely have a more significant impact on companies and the broader economy.
In terms of investment strategy, he is more focused on opportunities in bond duration positioning and relatively cautious on credit bonds.
It is worth noting that even if the AI industry needs large-scale financing in the future, the extent to which it is hit by high rates may be relatively limited.
Gokhman estimates that large cloud computing companies and other AI-related firms may issue about $300 billion in bonds.
However, he noted that many of these companies have investment-grade credit ratings, ample capital, and strong financial strength.
As companies race to build computing infrastructure, their financing decisions may be less sensitive to interest rate costs than those in other industries.
As a result, the impact of high rates on the US economy may be clearly divided, with financially strong tech giants able to continue expanding investment, while housing, consumer credit, and some small and medium-sized enterprises may come under increasing pressure.
Risks of Slowing Growth and Stubborn Inflation Coexist as US Stocks and Bonds May Face Dual Pressure
Although some investors believe the US economy can still withstand current rate levels, risks may gradually accumulate if high yields persist for a long time.
Gokhman believes a 5% bond yield alone may not be enough to immediately deal a severe blow to the economy, but it will further increase the burden on sectors already under pressure.
He noted that the latest employment data and consumer confidence readings have already shown some of the pressures facing the economy.
Compared with a simple high-rate environment, what is more worrying is a situation in which economic growth begins to weaken but inflation fails to fall in tandem.
In such a case, the Federal Reserve may find it difficult to quickly loosen monetary policy, while high bond yields may continue to weigh on economic activity and asset valuations.
Gokhman specifically mentioned that an Iran war could keep energy prices elevated for a long time, increasing the risk that inflation remains persistent.
To hedge against that possibility, he and his team have recently increased commodity allocations in their portfolios.
He believes that if slowing economic growth and stubborn inflation coexist, stocks and fixed-income assets could come under pressure at the same time, creating a market environment similar to 2022, while commodities may become one of the few asset classes with safe-haven properties.
Overall, although Friday's weak jobs data temporarily eased selling pressure in the Treasury market, it did not eliminate the risk that high rates will persist.
For Wall Street, the real question is no longer simply whether the 10-year Treasury yield breaks above 5%, but how long this level will last and whether the real economy can keep growing in an environment of persistently high financing costs.
While AI capital spending continues to support large technology stocks, housing, consumer credit, and financially weaker companies have already begun to come under pressure.
If economic growth slows further in the future and energy prices make inflation hard to bring down, both US stocks and the bond market could face a more complicated investment environment.
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