Published : April 3, 2021
A yield is a number that indicates the anticipated return you get on a bond. It is represented in percentage form for instance a 7% yield means the investment averages a 7% return each year. The main function of bond yield is to have an informed decision about which bond to buy. The change in bond interest rate also changes the yield of it so it is a crucial thing to check the yield of a bond. Mainly, risk-averse investors tend to invest their money in bonds. However, some risk-taker investors also invest their money for portfolio diversification in the stock market.
Rising in US bond yields have created panic in the stock market as the investors might shift some of their fund towards the debt market. It’s a market with very low risk and the stock market has made a substantial amount of performance in the previous year. Now, the majority of investors think that it would cool down for some time. Let’s discuss some points related to the US bond yields and their relation with the stock market.
US bond yields are increasing in the hope of economic recovery in the country. Also, the potential return of inflation is the reason for increment in it. The Federal Reserve loosened the monetary policy to support the US economy after aftershock from the Covid-19 pandemic and the bond yields were reduced at this time last year. As inflation is moving up the Fed is expecting increment in the bond yields. As we have observed, the prices of commodities have sharply increased in last year which is a sign of higher inflation.
Higher bond yields indicate higher interest rates in the economy and higher interest rates increase the cost of borrowing money for companies. So the cost of borrowing increases and it affects the profits of companies particularly the companies which have huge debts. Cash flows of companies are also distracted by a rise in the yields as they have to pay more towards their loans. The higher rates also impact individuals as they have to pay more on EMIs and home loans. It reduces the overall demand in the economy.
The companies which have more debt are vulnerable to a rise in bond yields as the payment towards loans would be more and the further loans would be more costly for them. The rise in US bond yields will also depreciate the value of the rupee and this is negative for the companies which have to borrow in the US dollar. However, the pharmaceuticals and information technology (IT) companies will have a positive impact in India as they have their earnings in the US dollar as the depreciation of the rupee will impact them positively.
In short, there has been immense buying in the stock market in the last year as the Covid-19 pandemic was used as a tool to take the market to higher levels. Now the news of rising US bond yields have come into the picture and the market has reacted negatively to it as it should be. With the rise in yields, cash flows of debt-laden companies would be shattered. Pharmaceuticals and IT sectors are more vulnerable to change due to this where it indicates some positive signs for Indian pharmaceuticals and IT companies.
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