Mid-August Update: Rising 10-Year Treasury Yield Pressures Market
By: Christopher Mistal
August 17, 2023
Early August weakness has persisted, and mid-August’s usually seasonal favorable period has been overridden. The S&P 500 was down on all three of its bullish days this week. Although not the greatest or most significant seasonal trend or pattern out there, the absence of strength during this usually bullish period is a concern. As of today’s close, DJIA is down 3.1%, S&P 500 is off 4.8% and NASDAQ is down 7.2% in August. From their respective closing highs, losses are modestly bigger, but still less than the 10% typically used to define a correction.
[August Seasonal Pattern Chart]
In the above updated (as of 8/17/2023 close) August Seasonal Pattern Chart comparing Pre-election Years (right axis) to 2023 (left axis) the lack of the usual mid-month strength this year is clear. Going forward August’s pattern suggests continued weakness and volatility before a modest rebound just ahead of the end of the month. Even if late-August strength does materialize, it is not likely to persist during the historically weakest month of the year, September.
[S&P 500 Pre-Election Year & STAAC Chart]
Even though mid-August strength was overridden, the S&P 500 continues to track applicable full-year seasonal patterns closely this year. This chart also suggests continued weakness and volatility lasting possibly until late October. Looking at S&P 500’s pullback in February and March of this year when it went from well above average to below average pre-election performance suggests the current pullback could be around the halfway point. At the S&P 500’s late July peak, numerous excesses had accumulated. Valuations were stretched in many segments of the market, sentiment had reached frothy levels, and technical indicators were overbought. Some progress has been made unwinding those, but more remains to be done.
One of our concerns from our March member webinar has reemerged. The 10-year Treasury bond yield has climbed back near levels last seen in October when the S&P 500 bottomed out and 2022’s bear market came to an end. The intra-day high of 4.33% for the 10-year Treasury was nearly reached today. A breakout above this level and higher will add significant pressure to the market. It will also drive mortgage rates even higher putting further pressure on real estate. Of even greater concern is the potential impact on the banking sector as many of the biggest banks could face a rating cut. Fitch reminded everyone earlier this week of the possibility. Whether it occurs or not remains to be seen.
The main driver of the higher 10-year Treasury yield is inflation remaining stubbornly above the Fed’s 2% target and signs that it may accelerate. July’s CPI and PPI reports both showed modest upticks, but the reports also did not capture the full increase in gasoline prices we have been seeing at the pump. It is also worth noting that July’s CPI 12-month change was reported wrong nearly everywhere due to an error in the BLS press release that remains uncorrected. Going to the data on the BLS website reveals that 12-month CPI was up 3.3% in July, not the 3.2% reported in the press release and subsequently quoted nearly every other place.
[12-month CPI Projection Chart]
Plugging July’s CPI reading into the above updated projection chart results in the odds of the Fed meeting its 2% target remaining dismally low. The only month-over-month change that gets CPI under 2% is 0.1% or less. And even then, it will not be reported until February 2024. Solid employment data and accelerating economic growth only add further pressure to rising prices and inflation data. The Atlanta Fed’s GDPNow model is forecasting Q3 growth of 5.8% as of its most recent update on August 16.
The clarity that the market seeks on interest rates simply does not exist yet. The solid trend of inflation easing has turned murky, and the Fed could be forced to raise rates yet again and/or hold rates higher for longer. The market is also in the middle of the historically weakest 2-month span, August through September. Our outlook for the remainder of the quarter and the year remains the same. More volatility and chop are expected through the rest of August and September. A Q4 rally into the New Year is also still in play.