The recent rise in bond yields is causing a stir in the financial markets, attracting investors with its attractive rates while putting pressure on certain sectors, such as real estate and utilities.
According to Katie Stockton, founder of technical research firm Fairlead Strategies, elevated Treasury yields have been impacting the performance of real estate investment trusts (REITs) and utilities. Both the Real Estate Select Sector SPDR Fund (XLRE) and the Utilities Select Sector SPDR Fund (XLU) have experienced significant declines this quarter. The XLRE has dropped 3.8%, while the XLU has tumbled an even steeper 6%.
The performance of these funds has been underwhelming throughout the year, with the utilities sector hit particularly hard. Stockton notes that while the XLRE is relatively range-bound, the XLU has experienced a more pronounced breakdown. She suggests that if yields enter a consolidation phase, there may be temporary relief for these sectors. However, given the downside momentum behind both ETFs, she does not recommend adding exposure to REITs or utilities at this time.
Traditionally viewed as a defensive area of the stock market during economic downturns, the utility sector is surprisingly the worst-performing sector in the S&P 500 index this year, sinking more than 13%. On the other hand, while REITs have faced recent pressure with a 1.8% decline so far this year, homebuilders' shares have surged in 2023, despite a sharp selloff on Tuesday.
The iShares U.S. Home Construction ETF (ITB) has seen a remarkable increase of over 38% this year, even after a 4.6% drop on Tuesday. Similarly, the SPDR S&P Homebuilders ETF (XHB) experienced a 3.9% fall on Tuesday but remains up over 34% for the year. This suggests that the new home market might be a favorable option for prospective buyers, especially with the possibility of builders "buying rates down," as suggested by Renaissance Macro Research in a note last month.
Home-builder ETFs Surge Despite High Mortgage Rates
Despite high mortgage rates, new-home sales in July have shown promising growth, causing a surge in Home-builder ETFs. RenMac's head of technical research, Jeffrey deGraaf, noted that while trends in both homebuilding and building products remain positive, there are indications of negative volatility alerts, which could suggest saturation.
In addition to this, rising Treasury yields have affected stock-market valuations and returns in the bond market. As bond prices and yields move in opposite directions, this has had a broad impact on investment portfolios.
The yield on the 10-year Treasury note has increased by approximately 44 basis points this year through Tuesday, reaching a rate of 4.267%, according to Dow Jones Market Data. By Wednesday afternoon, 10-year Treasury yields BX:TMUBMUSD10Y were slightly higher at around 4.29%, as shown by FactSet data.
These rising yields are a result of the Federal Reserve's efforts to tighten monetary policy and combat inflation. Treasury bonds, recognized as risk-free investments issued by the U.S. government, have become increasingly attractive to investors due to their soaring risk-free rates over the past 18 months.
For instance, six-month Treasury bills BX:TMUBMUSD06M were yielding around 5.5% on Wednesday afternoon, according to FactSet data.
On a broader scale, the iShares Core U.S. Aggregate Bond ETF AGG, which tracks an index of investment-grade bonds in the U.S., experienced a slight decline on Wednesday, further reducing its year-to-date gains. The fund had achieved a total return of 0.5% this year until Tuesday.
Meanwhile, the U.S. stock market faced a decline on Wednesday as Treasury yields continued to climb. At last check according to FactSet data, the Dow Jones Industrial Average DJIA was down 0.8%, the S&P 500 SPX fell 1%, and the technology-heavy Nasdaq Composite COMP dropped 1.3%.
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