Yield Surge Sends Signal of a Scary Second Half

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Investors are using the recent run-up in bond yields to justify some portfolio changes in preparation for what could be a much different second half.

Though the move in the benchmark 10-year note yield past 2.10 percent isn't high by historical terms, it is near the top level this year and the highest since April 2012.

More importantly, it comes as Federal Reserve officials debate how quickly they want to scale back asset purchases, which have helped propel recoveries in stocks and the housing market.

Taken together, conditions have prompted talk that the rally in defensive areas—consumer staples, health care and dividend stocks in general—is getting old and that a move toward underperforming cyclical areas such as energy, which has badly lagged the rally, is poised to take off.

(Read More: Rising Yields May Stifle Boom in Dividend Stocks)

Call it the "rising rate rotation"—a belief that stocks can still make some gains but probably more slowly than earlier this year and with much different leadership.

"Rising bond yields could take some of the steam from dividend yield plays, especially in the staples and health-care areas," said Tobias Levkovich, Citigroup's chief U.S. equity strategist. "Competitive yields might mean that the dividend fascination gets dimmed somewhat, and several groups suffered when 10-year yields climbed in the past."

Investors should be careful, however, as to how aggressive they get with higher-rate bets.

A surge in yields would suggest a growing economy, and Monday's release from the Institute for Supply Management provided fresh indications that growth remains fragile at best.

(Read More: US Manufacturing Shrinks; Construction Spending Up)

The reading of 49.1 actually represents economic contraction, and responses to the survey were laden with caution.

The "downturn in European and Chinese markets is having a negative effect on our business," said one respondent in the machinery sector.

"Business continues to increase, but over the past 20 days we have seen the trend flatten," was the sentiment from someone in the furniture industry.

Indeed, even the most bearish on bonds are capping the rise in the 10-year yield to about 2.5 percent, where it stood in August 2011 before taking a precipitous fall. The yield dropped through Monday's choppy session.

"This backup in yields was more of a technical reversal as opposed to a fundamental change," said Peter Cardillo, chief market economist at Rockwell Global Capital."The bubble in the Treasury market has ended, but it will be a gradual upward movement in terms of yields. The worst-case scenario is maybe the first quarter of 2014 we're looking at 10-year yield of 2.5 percent."

As that rate goes up, investors will be looking for stocks that buck the trend.

(Read More: Is Another Turbulent Month in Store for Markets?)

Strategas put together a list of rate-sensitive stocks—rife with technology, industrials and discretionary names.

The five most-correlated stocks are Micron Technology, Charles Schwab, Hasbro, RR Donnelley and Quinstreet.

Many strategists remain convinced that the broader market rally will be underpinned by continued Fed stimulus, despite all the recent chatter about tapering.

"We believe the S&P 500 is undergoing a normal and healthy digestion of gains that will likely end up as loud noise [a decline of 1 percent to 4.9 percent] but not something worse," said Sam Stovall, chief equity strategist at S&P Capital IQ.

Any drop in equities and sharp upturn in rates is likely to be met with more Fed response—Bank of America Merrill Lynch last week said an even more aggressive program is possible—that will cap selloffs in both bonds and stocks, at least for the moment.

"To steal a phrase from [Fed Chairman Ben] Bernanke, if the data that exists today is present in 'the next few meetings,' it is unlikely the Fed will start the process of scaling back purchases," said Tom Porcelli, chief U.S. economist at RBC Capital Markets.

"From that perspective, it also seems reasonable to conclude if the recent [bond] selloff is going to grow some legs, it will have to be accompanied by economic data that is a bit more spirited," he said.

—By CNBC.com Senior Writer Jeff Cox. Follow him on Twitter @JeffCoxCNBCcom.