Via Kurtis Garbutt & geralt
The irony is almost too much. On Election Day, November 8, 2016, the 10 Year US Treasury yield crossed over the S&P 500 Index dividend yield. More importantly, it hasn’t looked back since. Over the past year, the bellwether’s yield has jumped 28%, while the S&P 500’s dividend yield has fallen – 8% (see chart below). Monitoring these two rates is an important reference for stock market valuations, inflation forecasts, and overall cost of capital issues that CFOs manage around every quarter.
With the Treasury yield now offering a better cash flow rate of return than stocks over a 10 year timeframe, investors who have been buying up stocks solely for cash flow purposes should be very diligent now. As interest rates continue their climb, all debt securities will offer higher rates than we’ve been experiencing since December 2008. Mean reversion is a basic fact of our capital markets. The cost of capital, whether as a borrower, lender or equity holder, should accurately reflect asset class risk.
Unbeknownst to most investors, the bond market is volatile. Since the Great Recession, 10 Year Treasury yields have oscillated from below 1.50% (in both 2012 & 2016) to over 3.96% (in 2010). Meanwhile, the stock market’s dividend yield peaked at 3.79% in March 2009, but has spent most of its time below 2.00%, as interest rates have remained well below historical averages and stock market values have climbed to recent all-time highs.
A stock market correction would briefly reset this trend, casting dividend yield in a more favorable light, but I wouldn’t hold your breath that such an event would stall the broader rate trend already underway.
