This chart shows exactly why investors should worry about rising yields - even if they don't own any bonds

By Joseph Adinolfi

Rising yields are dragging stocks lower

The U.S. stock rally is susceptible to rising Treasury yields.

Strong earnings growth over the past few quarters has helped lift U.S. stocks into record territory. Now rising Treasury yields are threatening to temporarily derail the rally.

Major U.S. companies are on track to tally a second straight quarter of earnings growth north of 20% in the second quarter, a pace they are expected to maintain during the third and fourth quarters as well, according to an analysis from LPL Financial. High growth rates persist, even after excluding the sizable boosts to reported net income of several hyperscalers coming from markups to private investments in companies like Anthropic.

Yet with all of the positive earnings-related news expected to die down after Nvidia (NVDA), a key artificial-intelligence bellwether, shares its latest results on Wednesday, investors are likely to shift more of their attention to macroeconomic risks like rising bond yields, the coming U.S. midterm elections and the still-unresolved conflict in Iran.

"With positioning and seasonality less supportive, the market now faces a concentrated run of macro catalysts. Rates are the near-term risk," wrote Warren Pies, founder of 3Fourteen Research, in commentary shared with MarketWatch.

Enthusiasm for the strong earnings numbers already appears to be starting to wane. The forward price-to-earnings ratio for the S&P 500 SPX has fallen this year, even as stocks have climbed - a sign that the market isn't rising as quickly as analysts' earnings estimates. The average return in excess of the daily performance of the S&P 500 for companies that reported second-quarter earnings beats has fallen to just 0.04%, according to an analysis from the Schwab Center for Financial Research. That is on track to be the smallest average excess return since the fourth quarter of 2024.

Meanwhile, stocks and bonds increasingly have been moving in lockstep, as the below chart shows. That's a sign bond yields are now in the driver's seat.

Case in point: The three-month rolling correlation between the iShares 20+ Year Treasury Bond ETF TLT, which invests in long-dated Treasury bonds, and the State Street SPDR S&P 500 ETF Trust SPY, which aims to track the performance of the S&P 500, in June touched its highest level on record going back to 2002, and it has remained elevated ever since. Bond yields move inversely with bond prices, rising as prices fall.

This shifting relationship isn't all that surprising, according to Jeffrey Buchbinder, chief equity strategist at LPL Financial. Research shared with MarketWatch showed that the correlation between stocks and bonds has tended to flip from negative to positive when the yield on the 10-year Treasury note BX:TMUBMUSD10Y has held above 4.3% for any length of time.

At around that level, investors tend to become increasingly concerned that higher borrowing costs could put a damper on economic growth, while increasing the cost of capital for large publicly traded companies, Buchbinder said. Higher yields also can make bonds more attractive to investors, relative to stocks.

The 10-year Treasury yield was at 4.64% Tuesday, near its 4.74% one-year high. Although Buchbinder expects it to edge lower in the months ahead, a flood of AI-related bond issuance, along with high oil prices and a resilient economy, could potentially keep yields elevated.

As a result, there is scope for the tug-of-war between rising stock prices and rising bond yields to persist for now.

-Joseph Adinolfi

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08-25-26 1458ET