Treasury Rates Are Starting to Pressure Stock Valuations

Technical Stock Market Briefing for Day & Swing Traders
| By Harry Boxer, Technical Market Analyst

Last week, the indices managed to log decent gains.

While we saw an uptick in volatility (the VIX hit a year-to-date high of 22 on Monday), the S&P 500 recorded its largest weekly gain (+3.0%) since November, and the Nasdaq gained 2.4%.

It was just the second positive week out of the past six for the S&P 500, which, at Friday’s close, was less than 2% below a record high set on December 6.

The price of the most widely traded cryptocurrency, Bitcoin, surged near the record level it reached a month earlier. Bitcoin climbed on Friday to around $104,700 in afternoon trading, up from $94,500 at the end of the previous week. The currency hit its record high of approximately $108,000 on December 17.

The early days of 2025 have delivered plenty of market headlines, some volatility, and further evidence of economic and corporate strength.

However, the biggest surprise has likely been the magnitude and speed of the rise in bond yields.

What might traditionally be considered good news for the economy has instead been interpreted as bad news for markets when viewed through the lens of inflation and Fed policy.

Traders who were once overly confident in the Fed’s willingness to cut rates may now be underestimating its flexibility.

Last week, the benchmark 10-year Treasury yield briefly touched a 14-month high of 4.8% before retreating following encouraging inflation data.

This marked the third time since the start of the bull market in October 2022 that the 10-year yield exceeded 4.5%—a threshold that, in the past, has triggered some indigestion for equities. The first instance was in the summer of 2023, which led to a 10% pullback in the S&P 500, and the second was in April 2024, resulting in a 5% decline. Despite these pressures, the bull market has remained intact, supported by solid fundamentals.

The start of the fourth-quarter earnings season serves as a good reminder of the influence that earnings have in driving stock market direction and returns. Interest rates can impact valuations, but the strength of corporate profits is a more sustainable driver of performance.

The banks kicked off the earnings season last week, delivering strong results and pointing to a favorable macroeconomic environment. More broadly, S&P 500 earnings are expected to increase by 11% in the fourth quarter from a year ago, which would represent the strongest growth in three years.

If S&P 500 earnings grow by 10% or more in 2025, as analysts expect, stocks can advance even after a modest decline in valuations. In this scenario, the price-to-earnings ratio would need to fall below 19.5 from 21.5 currently to fully offset the gains from rising profits.

Policy headlines will likely dominate the narrative after Inauguration Day on Monday, with markets attempting to calculate expectations for growth and inflation based on what’s announced. Despite the uncertainty, the upside of the bond market rout in December and early January is that it helped unwind some investor sentiment extremes.

In October, twice as many investors anticipated market increases rather than declines. However, the current bull-to-bear ratio has now dropped to slightly under one, indicating more balanced sentiment. Even though the Fed’s path and the new administration’s policies remain somewhat uncertain, this reset in expectations may pave the way for the next leg higher in stocks.

Given the potential for tariff announcements from the Trump administration early next week, along with the near-term overbought technical setup, we could see some weakness in the early part of the week.

In any case, as always, we will Trade What We See Technically, Not What We Think.

*No credit card required