How Does the Stock Market Perform When Interest Rates Rise?

Over the past couple of weeks, the markets globally have been volatile on the back of rising interest rates. Whilst central banks remain committed to keeping rates low for extended periods, bond markets have started factoring in rising inflation on the back of a strong economic recovery and hence demanding higher real interest rates, reflecting in bond yields rising. Closer home, the government’s bold move of a loose fiscal policy to help revive the economy has added to rising bond yields locally as well. Over the past few months, we have featured pieces about the prospects of rising inflation in 3L&3S. But in this piece, Ben Carlson looks at how the stock markets have performed in history when interest rates rose. Whilst Ben’s analysis shows several periods where stocks gave healthy returns in a rising rate environment, he says it isn’t entirely improbable that we see a crash this time around.
“From 1954-1960, the 10 year treasury yield went from 2.3% to 4.7%. In that time, the S&P 500 was up 207% in total (17.4% annualized).
Then from 1971-1981, rates went vertical, rising from 6.2% to 13.7%. This period included sky-high inflation and the brutal 1973-1974 crash, but nominal returns were still pretty decent, at 113% in total (7.1% annual).
From 1993-1994, rates shot up from 6.6% to 8.0%. The S&P 500 was still up nearly 12% in total despite some carnage in the bond market.
At the tail-end of the dot-com bubble, rates rose from 5.5% in 1998 to 6.5% in 1999. Didn’t matter. Stocks were up more than 55% (although that was followed by a 50% crash beginning in early-2000).
From 2003 through 2007, rates went from 3.3% to 5.1%. The S&P rose nearly 83% (12.8% annualized) before the onset of the 2008 crash.
And the latest rising rate environment saw the 10 year go from 1.5% in 2012 to 3% by 2018. Even with the mini-bear market at the end of 2018, stocks were still up 131% in total.
Could rising rates lead to a stock market crash? Yes, that is possible.
Do we know what level of rates will potentially cause a crash? Nope.
Should the stock market care if interest rates are rising for the right reason? Time will tell.
Are tech stocks being propped up by extremely low interest rates? We’ll see.
The problem with the current rate environment is we’ve never experienced interest rates this low before. Maybe investors will become spooked at lower rates than they have in the past. Maybe markets will be given the benefit of the doubt if the economy is chugging along.
The truth is there is no rule of thumb with these things.
But rising rates, in and of themselves, don’t always spell doom for the stock market.”