Bond yields, debt-ceiling stalemate cause market fall

MANHATTAN (CN) — Markets tumbled on Tuesday, as a mixture of spiking bond yields and worries about the U.S. debt ceiling caused investors to reassess their positions.

The selloff began early and never relented, with the Dow Jones Industrial Average losing 571 points by the day’s end, a 1.6% decline. The S&P 500 and Nasdaq dropped 2.8% and 2%, respectively.

As evident by the Nasdaq’s large drop, tech stocks in particular were slammed, with shares in Microsoft down 3.6%, Apple down 2.3%, Google declining 3.7%, Facebook falling 3.6% and Twitter dropping 4.5% by the closing bell.

Last week Wall Street narrowly escaped a rout caused by the imminent collapse of Chinese developer Evergrande, which is weighted down by about $300 billion in debt. Investors have not been so lucky so far this week, with skyrocketing Treasury yields leading the pullback in equities.

Since last Thursday, the yield on 10-year U.S. Treasury bonds has jumped from about 1.3% to 1.55%, coming close to the 1.75% rate seen last spring. The yield on 30-year bonds also spiked on Tuesday, rising above 2%.  

“Anytime we see the 10-year [Treasury] yield move such a dramatic amount in a short period of time, especially off of low starting levels, it generally coincides with a market sell-off of some magnitude,” Brian Price, head of investment management for Commonwealth Financial Network, said in emailed comments.

Price also noted, however, that if the interest-rate increases moderate as inflation expectations decline, the market may resume its takeoff into the fourth quarter.

Tom Essaye of the Sevens Report attributes the rise in interest rates to the Bank of England, which signaled plans to soon hike its interest rates, perhaps as soon as in the first half of 2022. He said central banks around the world are becoming less dovish on interest rates, and that investors will need to contend with more volatility.

In the United States, the Federal Reserve so far has not raised its overnight federal funds interest rate, but recent comments by Fed Chair Jerome Powell and last week’s meeting minutes indicate a rate hike is on the horizon sometime next year.

Investors have worried about the Fed increasing interest rates too quickly — as well as its promises to taper off its bond-buying program, a process known as quantitative easing — and renewed concerns over the Fed’s two major lifelines have some investors spooked.

Peter Boockvar, a Fed hawk, says that volatility will be main residue from the Fed’s moves, which he says is aggravating instead of salving inflation. “In the current stagflationary economic situation we find ourselves in, yields are going to ping pong each day, each week between rallying on growth concerns and selling off on inflation worries, with certainly the latter driving things over the past week,” he wrote.

Another stress point for investors is the political quagmire over the U.S. debt ceiling. “It’s getting to ‘crunch time’ for Washington,” Essaye wrote in an investor’s note. “And while a debt ceiling breach or government shutdown are unlikely, the bottom line is Washington has little room for error at these valuations in stocks, and if there’s a policy error, markets could get hit, hard.”

In a letter to lawmakers on Tuesday, Treasury Secretary Janet Yellen said the U.S. Treasury will likely run out of money by October 18 if the ceiling is not extended or suspended, though it could come even sooner. If that happens, the U.S. would default on its debts and its rating would plummet.

A default would be disastrous, but even waiting until the last minute to increase the debt limit “can cause serious harm to business and consumer confidence, raise borrowing costs for taxpayers, and negatively impact the credit rating of the United States for years to come,” Yellen told lawmakers.

On Monday, Republicans in the Senate blocked a bill that would prevent a government shutdown and extend the debt ceiling. Democrats pounced on the vote, with Majority Leader Chuck Schumer saying “the Republican Party has solidified itself as the party of default.”

Republicans defended their decision. “Democrats have made clear that they don’t need Republican votes to spend outrageous sums of money, so it follows that they won’t be getting our votes to borrow for it,” Senator Mitt Romney tweeted on Monday.

Other negative indicators continue to take their toll on investors. On Monday, Federal Reserve Governor Lael Brainard told the National Association for Business Economics that the labor force participation rate has not budged from 61.7%, possibly suggesting that Covid-19 has permanently depressed the labor market.

“The decline in labor force participation appears to reflect Covid-related constraints that have been prolonged by Delta rather than permanent structural changes in the economy,” she said, noting that a recent U.S. Census Bureau survey indicated the number of people saying they were not working due to being sick with Covid or caring for somebody infected by the virus has more than doubled between late July and early September.

She also said the delta variant of the coronavirus has prolonged the supply bottlenecks that have exacerbated inflation. “It is uncertain just how fast and how much inflation will decelerate over the remainder of the year and into next year,” she added.

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