Can stock-market rally survive rising Treasury yields? Here’s what history says.


There’s more than one way to interpret the impact that Treasury yields can have on U.S. stocks.

Ed Clissold, chief U.S. strategist, and Thanh Nguyen, senior quantitative analyst, for Ned Davis Research described three scenarios in which the direction of short- and long-term bond yields and their moves relative to one another have produced “interesting — albeit complicated — messages for the stock market.”

Their bottom line is that the S&P 500 SPX tends to rise at a decent clip except during periods of “bull steepeners,” in which the 10-year Treasury yield BX:TMUBMUSD10Y is falling, but at a slower pace than its 2-year counterpart BX:TMUBMUSD02Y.

It’s often presumed that rising Treasury yields are bad for U.S. stocks overall, but research from Clissold and Nguyen comes up with more nuanced conclusions. They found that higher yields, which occur when investors sell off the underlying government debt, can be quite consistent with risk-on sentiment in equities, based on data that stretches back more than 40 years.

“Conventional wisdom is that rising yields are negative for stocks because they increase the cost for companies to borrow and provide competition for asset allocators,” Clissold said via phone on Thursday. “However, rising yields can also be a sign that the economy is proving to be more resilient than expected.” What’s more, when recession risks appear high, rising bond yields can reflect the Treasury market’s view that a recession is not imminent, “which would be bullish for stocks.”

Markets have been locked in what’s known as a “bear flattener” environment since March 29, 2021, according to Clissold — a period which captures the S&P 500’s all-time closing high of 4,796.56 on Jan. 3, 2022.

“Bear” refers to investors’ decision to sell Treasurys, which pushes yields up. The term “bull” refers to an environment of government-debt buying, which pulls down yields. “Steepener” and “flattener” describes the shape that the Treasury curve takes on as a result, based on moves in the 2- and 10-year rates.

NDR uses 150-basis-point swings in the Treasury curve to determine when markets have shifted into a different regime. Here’s how NDR’s research, released on Wednesday, breaks down:

  • The bull steepener. The bull steepener occurs when both the 2- and 10-year yields are falling, but the short-term rate does so at a faster pace. Theoretically, that would happen when recession fears pick up again. The long-term outlook not only turns more pessimistic, but traders and investors see greater reason for the Fed to start cutting rates in the near term. The bull steepener “has been the worst yield curve regime for stocks,” Clissold and Nguyen wrote. “The economic message from a bull steepener is that the economy is slowing to the point that the Fed will likely have to cut rates. The market is pricing in the risk of a policy mistake.” The last time such a regime was in place was between Aug. 27, 2019-Aug. 4, 2020, a period which includes the onset of the Covid-19 pandemic in the U.S.
  • The bear steepener. The bear steepener takes place when the 10-year yield is rising and doing so at a faster pace than the 2-year rate. Such a move ordinarily takes place in a situation where traders and investors see brightening U.S. economic growth prospects over the longer term. “The macro message is that the economy is strengthening, and the Fed is expected to hike. Put another way, the economy is getting the all-clear message, but the Fed has not overtightened.” The last time a bear-steepener regime was in place was from Aug. 4, 2020 to March 29, 2021, according to NDR. Still, yields can sometimes rise for the wrong reasons, as they did last week on increased worries about the U.S. fiscal outlook, which knocked the wind out of stocks.
  • The bear flattener. Finally, there’s the bear flattener, which is produced when the 10-year yield rises but at a slower pace than the two-year rate. In other words, traders and investors are selling off both underlying maturities, but doing so more aggressively with the 2-year Treasury. Under a bear-flattening regime, which has been in place since March 29, 2021, “the yield curve is signaling that the economy is still strong, but the market is starting to anticipate conditions may cool to the point that the Fed may need to cut.”

Source: NDR. Data as of Aug. 8, 2023. Orange shading indicates bull steepeners. Gray shading indicates bear steepeners. No shading indicates bear flatteners.

Thursday’s financial-market action provided another example of how rising yields don’t necessarily undermine the performance of equities. All three major U.S. stock indexes DJIA SPX COMP managed to eke out gains even though two- and 10-year Treasury yields ended the New York session at one-week highs.

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