U.S. stock investors shrug off higher yields, for now

Global Stock Markets

Spooked one week, sanguine the next. 

Overall, $14.1 billion was pulled from debt funds, with $10.9 billion taken from high-yield bonds alone, the second highest outflow on record. Investment-grade bond funds weren’t spared, with $2 billion of redemptions ending a 59-week streak of inflows, the bank said in a report covering the week to Feb. 14.

A separate report from Lipper also showed an exodus from riskier debt. Investors yanked $6.3 billion from U.S. high-yield junk bond funds in the past week, it said, the fifth straight week of outflows, bringing the total over that period to more than $15 billion.

The 10-year U.S. Treasury yield has continued to climb this month and jumped to a four-year high Thursday after consumer price data rose more than forecast. Simultaneous outflows from investment-grade, high-yield and emerging-market bonds occurred for the first time since the U.S. presidential election in November 2016, according to Bank of America.

Despite a rebound the S&P 500 Index, U.S. equity funds continued to see outflows, BofAML said. Investors took $7.2 billion from American stocks, although both European and Japanese shares enjoyed inflows. Large-cap stocks suffered the brunt of the withdrawals.

Still, not all bond funds experienced redemptions. Funds tracking Treasuries and government bonds took in $2.4 billion of new money, according to the note.

Some stock investors are drawing optimism from the market’s ability to move upwards in the face of loftier yields - even though those higher yields were partly blamed for last week’s violent selloff.

Those investors are optimistic about economic growth, and stocks that can benefit from that environment, although they concede the overhanging risk that a sharp spike in yields could cause another rout. 

Rising yields spooked the stock market last week, following employment data on Friday that caused concerns about inflationary pressures. 

However, this week has seen a rising stock market, despite yields remaining near their four-year-high.

Wednesday's move up in stocks - including a 1.3 percent surge for the S&P 500 .SPX - came even as the benchmark 10-year Treasury's yield rose from 2.84 percent to 2.91 percent, following closely watched inflation data showing U.S. consumer prices rose more than expected in January. 

“The equity markets had to reprice for this (higher yield) environment, and now the stock market is saying: ‘We’re OK with this, Game On’,” said Jason Ware, Chief Investment Officer of Albion Financial in Utah, who said he still preferred stocks to bonds. 

Wednesday’s rise in stocks also came as volatility levels had fallen, with the Cboe Volatility index .VIX dropping into the 20s after rising as high as 50 a week earlier, and coincided with expiring VIX futures and options. 

Rising bond yields threaten stocks because they present investment competition following years of very low rates that supported equities. Increasing rates also could indicate a tightening of economic conditions. 

Pavlik and McMillion favour sectors that should perform well during an improving economy, including financials and consumer discretionary stocks. 

Since October, the S&P 500 and 10-year Treasury yields have been positively correlated, moving in the same direction, when viewed over a mid-term, 60-day period, according to Thomson Reuters data. 

But the move higher came as bond yields were rising off of very low levels. The benchmark 10-year yield hovered on Thursday around 2.90 percent after touching a more-than four year high during the session.