Morgan Stanley explains why rates are rising

Investing.com -- Morgan Stanley analysts identified several factors driving the recent rise in bond yields, which have increased notably across the curve despite the Federal Reserve's recent 50-basis-point rate cut.

"There are several interpretations as to why yields are rising," the analysts noted, emphasizing the potential impact on equity markets and sector leadership as the 2024 U.S. presidential election approaches.

One key factor involves market expectations around the election. "Prediction markets have pointed to an increased likelihood of a Trump win and a Republican sweep," which could influence bond markets due to the anticipated policy shifts.

Morgan Stanley suggests that if this scenario materializes, it could drive a material increase in the bond market's term premium due to concerns over expanding deficits.

"A move higher in the bond market term premium related to deficit expansion would pose a risk to equities," they caution.

However, not all the yield increases are tied to political developments. Analysts differentiate between rising yields driven by inflation versus economic growth.

If higher rates result from economic growth, equities could perform well, even in the face of increasing yields.

"If rates move higher driven more by growth than inflation, equities can see strong performance," they noted.

The bank's note also explores how certain sectors are responding to election dynamics. For example, stocks within Consumer Retail and Brands with tariff exposure "appear to be discounting a higher probability of a Trump win," underperforming amid the tariff uncertainty.

Meanwhile, "renewables stocks," which are expected to benefit from a Democratic victory, have also lagged in October, indicating mixed signals in the market.

Morgan Stanley concludes that while current market trends resemble aspects of the 2016 election playbook, inflation and deficit concerns make the present environment more complicated.

Source: Investing.com