Market Preview: Bye, Bye Bonds, Hello Stocks?
Updated from 7:45 p.m. ET to include information on the higher running temperature of Apple's new iPad .
NEW YORK ( TheStreet) -- Plenty of digital ink is being spilled these days about what the recent rise in the yield on the 10-year Treasury means for the relentless rally that stocks have enjoyed since early October.
Sam Stovall, chief equity strategist at S&P Capital IQ , laid out the competing scenarios in commentary earlier this week.
"Would higher rates instantly depress equity prices, serving as a depressant in intrinsic value calculations, along with reducing corporate EPS due to an increase in interest expenses?," he wrote. "Or might stock prices maintain their historical upward bias since investors fleeing bonds would be attracted to higher-growth equities, provided these rates stayed below a particular threshold?"
To that end, Stovall ran the numbers to see what the historical trend has been, discovering that stocks may have a plenty more upside before rising rates become a problem.
"Since 1953, history shows that the S&P 500 maintained a positive median monthly price performance, in spite of rising interest rates, up until a 6% yield on the 10-year T-note," he wrote. "Once rates crossed that 'line in the sand,' however, the median monthly price change for the '500' slipped into negative territory."
In fact, the data hints that the best could be yet to come, Stovall said.
"Indeed, the median monthly price change in the S&P 500 improved to 1.7% when rates rose within the 3%-4% range, versus the median price gain of 1.2% when rising rates were still below 3%," he wrote. "Prices averaged 1.3% between 4%-5%, but began to slip, posting an average advance of 0.7%, when rates were rising between 5%-6%. Above 6%, however, the returns became negative."
Stovall theorized that investors have likely bought stocks in the past through periods of rising rates when an improving outlook for the economy and corporate profits was part of the impetus for yields moving higher, which makes sense.
What's heartening for the current market is that in the past rising rates have led to an expansion of the S&P 500's price-to-earnings multiple. Earnings growth is expected to be fairly tepid in the first quarter with analyst expectations calling for just 2.8% year-over-year growth, according to Thomson Reuters .
"Since 1953, whenever the yield on the 10-year note was below 3%, the median P/E on trailing S&P 500 GAAP earnings was 13.1X," he said. "It expanded to 17.9X and 18.6X when rates climbed into the 3%-4% and 4%-5% ranges, respectively, only to top out at 22.5X in the 5%-6% range."
As of Friday's close at 1404, the S&P 500's trailing P/E ratio was 16.3X, so the market is a little ahead of the historical precedent since the 10-year yield settled at 2.36% on Tuesday.