Why are Bonds Crashing the Equity Market Party?

After a long up move equity markets corrected big and have recovered back. They are going up and down, and up again.

What exactly happened?

In Markets, you can never assign specific cause and effects but this drop was clearly attributed to rising bond yields.

As you know the Government borrows from the public and the Federal Reserve in the US, equal to the RBI Governor monitors the interest rates in the economy.
When the Pandemic hit, to support the economy interest rates was lowered all over the world.

The 10 year US Government Bonds considered the benchmark for interest rates for the US and the rest of the world. It is considered the safest asset to invest in and all the other bonds are priced relative to US treasuries.
So the US 10 years treasury, on Jan 2020 was trading close to 1.88%. As the Pandemic began… the yields started falling in Feb to 1.33%.

It continued to fall and by March it was @ 0.54%.

Why?

Investors were worried and they moved their money to a safe haven like US treasury bonds, there was too much demand and so the price of the bond increased and the yield started falling.

The demand settled and the yield recovered and then settled around 1% all through the year.
At the beginning of the year, the US 10 year was trading slightly above 1.12 %… and in a matter of days spiked to 1.6%.

The sudden increase in bond yields signaled a few things to the market and the equity market sold off. The question is why moves in the bond market spurred a huge drop in equities? When US Markets which is the mother market sell-off, Indian markets too corrected.

When there is a rise in interest rates in safe assets, large funds investing billions of dollars prefer to park their money there and earn a good return and pull away from “riskier” assets. So the bar is higher for other assets. Money starts getting pulled out of equities and invested in bonds.

What does the Bond Market Rise Signal?

Despite the assurances by the US Fed & RBI Governor that the official interest rates will not be raised, as the economy is seeing a good recovery, commodity prices like crude, copper & steel have risen substantially signaling a good demand.

The expectation of rising in inflation has kicked in. When inflation rises, you need a higher return from your FDs and bonds to meet your expenses. Yields have to rise to compensate for the rise in costs.
This sounds a wee technical but markets are like a maze of interwoven threads. A push or pull in one direction upsets the balance and reactions can be an overreaction.

Even Indian 10-year bond yields have risen from 5.95 % to 6.2% which has caused concern.
The question which arises is did the market expect yields to never go up? Of course not. Everyone knew that as the vaccine rollout happens, economies recover, and yields will go up.

It is just that the swiftness and the violent move have shocked the market.

That’s just the nature of markets. Funds with very large positions change views based on their judgment of economic indicators and when they do they can buy and sell big time which can create havoc in the markets.
It was also that post the pandemic fall, the recovery was swift and was one way up. The market had to stop somewhere and found a reason to do so.
Also based on the reassessment of the situation the sectors and stocks which may move may change.

All the work from home stocks may now see a selloff or at least some amount of stagnation and the physical economy like Airlines, multiplexes, restaurants, and commodities may recover and zoom up.

I think the party is not over yet, it’s just become a bit low-key and has shifted locations. The market may also move sideways and consolidate for a few months before taking on a fresh direction.

Meanwhile, we can just chill and enjoy the gyrations of stocks and understand newfangled stuff like NFTs or non-fungible tokens.