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Pro Analysis

History shows rising yields are not bad for stocks

Traders in the Standard & Poor's 500 stock index options pit at the Chicago Board Options Exchange.
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Traders in the Standard & Poor's 500 stock index options pit at the Chicago Board Options Exchange.

History shows rising yields are not as negative for stocks as investors fear right now, but there's one caveat: Earnings must grow at a faster pace than rates.

Those are the findings of a statistical analysis from James Paulsen, Wells Capital Management's chief investment strategist.

"Since 1950, the stock market has done fine with rising yields provided the annual growth in earnings per share exceeds the 10-year Treasury yield," wrote Paulsen on Thursday. "Indeed, historically, when yields have risen while earnings growth was above the 10-year yield, the S&P 500 increased by almost 10 percent per annum."

Paulsen's earnings-yield indicator compares the annual growth of S&P 500 earnings in relation to the 10-year Treasury yield. When the EYI metric was above zero — that is when earnings growth is greater than the 10-year rate — the annual return for the S&P 500 was significantly higher. The robust gains also came with less volatility, as shown on the chart below.