10-year yield punches through key 3%, but there's a level that could be even scarier for stocks

Published Mon, May 2 20223:20 PM EDTUpdated Mon, May 2 20226:39 PM EDT

Patti Domm @in/patti-domm-9224884/@pattidomm

The closely watched 10-year Treasury yield pushed through the psychological 3% level for the first time since 2018 on Monday, but strategists say there's another slightly higher level that could be an even bigger test for the stock market. The benchmark 10-year yield was last at 3% in late 2018, a period when the stock market was selling off and the Federal Reserve was ratcheting up interest rates. As the Fed has moved to tighten policy this year, the 10-year yield has now just about doubled, from 1.5% at the start of the year. On its way, the rising yield has pressured stocks, particularly growth and tech names that don't do as well in a high interest rate environment. Stock strategists say 3% is an important psychological level for stocks, and it has triggered selling. The S & P 500 was lower much of Monday, before reversing to close up 0.6% at 4,155. But an even bigger level of worry could emerge should the yield reach 3.25%. "3.25% would be the last cycle's peak," said Ben Jeffery, rate strategist at BMO. "I think at this point any further increase in yields is going to be negative for risk assets." Jeffery points out that the 10-year was at 1.66% on March 7, in the week going into the Fed meeting where the central bank raised its target fed funds rate from zero . Since then, the Fed has become more much aggressive and is now expected to boost the rate by another 50 basis points this Wednesday, and possibly continue to hike at a half-percentage point pace at the next couple of meetings. Fed officials are also expected to add more tightening pressure by beginning a program to shrink the nearly $9 trillion balance sheet, which holds mostly Treasury and mortgage securities. "3% psychologically is going to matter, but from a technical perspective 3.25% is where we're headed," said Peter Boockvar, chief investment officer at Bleakley Global Advisors. Yields move opposite price. "Stocks are going to be challenged all the way up ... It's more a progression of reaction than just a boom! sudden reaction." Boockvar said the 10-year was near 3.25% in November of 2018, when the Fed was last raising interest rates and paring back its balance sheet at the same time. Katie Stockton, founder of Fairlead Strategies, said the charts support that view, and 3.25% could be an important test zone. The 3.25% level could become resistance for a further move higher in the 10-year yield, making it a potential turning point, but that is unclear. The stock market remains in a downtrend, and the bond yield remains in an uptrend, she noted. "The Q4 2018 reaction to 3.25% was not good, but every environment is different. In 2018, in that period we came into that quarter stronger than we are right now," she said. "I think it's a more significant level [than 3%], because it is resistance. It's a former peak on the chart, and also because people remember what happened shortly after it reached it." Stockton said the 10-year yield had two episodes at 3.25% in the fall of 2018. It touched 3.26% in the week of Oct. 12, and the S & P 500 was down 4.1% that week. It touched it again Nov. 7, when the 10-year was at 2.485%, BMO's Jeffery noted. The stock market has been battered as yields ratcheted up. April's 8.8% decline in the S & P 500 was the worst monthly performance since March, 2020 when the pandemic shut down the economy. Stockton said the action in 2018 does suggest the stock market's decline was highly associated with the move in yield. The selling reached a crescendo with a large downdraft in stocks in the shortened Christmas Eve holiday session. After that, the stock market bounced. As for the bond market, yields fell as stocks floundered in late 2018. "Stocks freaked and we rallied down to 2.54% on Jan. 4," Jeffery said recently of the 10-year. "Stocks fell off a cliff, and the Fed stopped hiking." The Fed reversed itself and began a rate-cutting cycle in 2019. Quincy Krosby, chief equity strategist at LPL Financial, said the path to 3.25% could be decided by the Fed this week. Fed Chair Jerome Powell is slated to speak after the central bank releases its rate increase announcement at 2 p.m. ET Wednesday. "The Fed's press conference will either push it to 3.25% or bring it back down because Powell's going to talk about the slowdown in the data. It is a problem if the conditions for growth begin to dissipate," she said. Krosby also noted that the market's 2018 tantrum came mostly after the 10-year hit 3.25%. "You can see what happened in December. December of 2018 was when you had the most losses," she said.