- Bruce Campbell says 10-year yields have climbed to levels not seen since 2007, adding pressure to equity valuations as markets contend with rising inflation.
- Canadian financials and utilities are weakening as rates rise, while energy continues to benefit from higher oil prices.
- Gold and materials have also faced pressure from higher interest rates, while consumer staples have yet to show the defensive shift Campbell might expect in a broader risk-off environment.
- September seasonality and the U.S. midterm election cycle could contribute to choppier trading conditions.
Higher bond yields are putting equity valuations under pressure, but the impact is far from uniform across the Canadian market.
In the latest episode of Markets in Motion, StoneCastle Investment Management portfolio manager Bruce Campbell examines rising 10-year yields, expectations for U.S. interest rates and how the changing environment is affecting sector momentum on both sides of the border.
Campbell says 10-year yields have reached levels not seen since 2007. That’s significant for equities because higher yields can affect how stocks are valued while also increasing financing costs across the economy.
This article is being disseminated on behalf of StoneCastle Investment Management, a third-party issuer, and is intended for informational purposes only.
Inflation remains central to the outlook. Campbell points to a widening gap between the two-year yield and the Fed funds rate as another indicator that markets are anticipating tighter monetary policy.
He says market pricing ahead of the latest Federal Reserve meeting implied a 93 per cent probability of a 25-basis-point rate increase.
Energy holds up as financials weaken
Those changing rate expectations are producing clear differences across Canadian sectors.
Campbell’s relative rotation analysis shows Canadian financials coming under pressure as rates have risen. Utilities are also weakening, which he links to the sector’s comparatively high debt levels and sensitivity to borrowing costs.
Energy is moving in the opposite direction, supported by rising oil prices.
Gold and materials have recently struggled as higher interest rates create a more challenging environment for precious and base metals.
One potentially encouraging signal comes from consumer staples. Campbell notes that the defensive sector has not yet begun moving decisively into an improving position in Canada, suggesting the market is not displaying a uniform shift toward risk-off positioning.
September volatility returns
The U.S. market is displaying some similar characteristics. Financials have begun weakening, energy remains strong and utilities are under pressure. Technology is moving sideways within Campbell’s weakening quadrant, while U.S. consumer staples have begun improving.
All of this is happening during a historically challenging period for equities.
Campbell notes that September seasonality has typically produced choppier conditions, with the pattern particularly pronounced in Toronto. The U.S. midterm election cycle adds another seasonal factor for investors to consider.
Rather than signalling weakness across the entire market, however, current sector rotation continues to highlight areas of relative strength and weakness as investors adjust to higher yields.
Watch the video above for Bruce Campbell’s complete analysis of rates, sector rotation and September seasonality.