Rising rate concerns are likely to flood the market as both Fed rate hike and increased inflationary expectations pushed up Treasury bond yields. First, hopes of fiscal reflation in Trump’s presidency boosted the benchmark U.S. Treasury yield.
Plus, the Fed expedited its sole Fed rate hike of 2016 by a modest 25 bps to 0.50–0.75%, attesting the U.S. economy’s growth momentum and a tightening labor market. If this was not enough, the Fed has now forecast three rate hikes in 2017, up from two guided in September.
Notable changes were noticed in the projection for the benchmark interest rate for 2017, 2018 and 2019. Projections for 2017, 2018 and 2019 were ticked up from 1.1% to 1.4%, 1.9% to 2.1% and from 2.6% to 2.9%, respectively. These are meaningful jumps from the 2016 projected rate of 0.6%. The Fed’s funds rate for the longer run was raised to 3% from 2.9%.
The dual dose of Fed and Trump revved up benchmark U.S. Treasury yields. The yield on the 10-year Treasury note rose to 2.54% on December 14 from a low of 1.37% seen in early July. This situation knocked off rate-sensitive sectors in recent sessions.Â
Against this backdrop, high dividend paying sectors including utilities and real estate are in peril given their sensitivity to changes in interest rates. These sectors are capital intensive in nature. As the funds generated from internal sources are not always enough for meeting their requirements, these companies need to depend on the debt market highly.
As a result, a rising rate environment works inversely to these sectors as companies will now have a higher interest obligation. Also, these high-yielding sectors fall out of income-hungry investors’ favor if rates rise. Needless to say, investors would like to stay away from these sectors in the coming weeks.
In spite of excusing themselves from these stocks altogether, investors could make a short-term bearish play on the rate-sensitive sectors which will see choppy trading if interest rates maintain the ascent.
