Treasury yields reversed their recent rise to pull back sharply Wednesday after the Federal Reserve said it wouldn’t immediately begin tapering its bond purchases.
However, the Fed may start scaling back QE before the end of the year and there is a chance rates could creep higher.
Stocks have typically performed in a rising interest rate environment.
Since the first quarter of 1980, broad equity indices have shown positive average quarterly returns in rising-rate quarters, Matthew Rizzo, head of investment strategy & content consulting group investment advisor Research at Morgan Stanley Wealth Management, pointed out in a research note. [WisdomTree: Rising Rates Impact]
Some examples of average returns in quarters with rising interest rates include MSCI Emerging Markets 8.8%, Russell Mid Cap Growth 5.5%, Russell 2000 Growth 5.5%, Alerian MLP 5.1%, Russell 2000 Value 4.8%, Russell Mid Cap Value 4.7%, Russell 1000 Growth 4.3%, S&P 500 3.8%, Russell 1000 Value 3.7%, MSCI All Country World ex USA 3.5%, FTSE NAREIT Equity REIT 3.1%. The index data, though, doesn’t go as far back for emerging market equities and master limited partnerships. [iShares: Here Comes the ‘Taper Lite’]
“If rates rise for a prolonged period, the implications could be significant for asset allocation and portfolio construction, and we would suggest leaning toward growth stocks, smallcap stocks and the emerging markets,” Rizzo said.
Rising rates also typically coincide with an expanding economy. A central bank would monitor rates as a way to keep the economy from overheating. [Will Rising Rates Kill the Stock ETF Rally? Not Necessarily]
“An analysis of the past 140 years shows periods with rising rates have typically been associated with positive future equity returns, driven by improved economic growth,” Brian Krawez, president and lead portfolio manager at Scharf Investments, said in the note.
Moreover, Norther Trust Corp. has found a positive correlation between interest rate moves and stock returns when the benchmark 10-year Treasury yield was below 5%. Morgan Stanley has calculated that the correlation between the S&P 500 in periods where yield was less than 5% going back to 1980 was at a moderately strong 0.46.
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Max Chen contributed to this article.