The stock market is the place where the hopes and fears of investors intersect with the objective profit/asset characteristics of publicly traded companies and express themselves though the level of, and movement in, stock prices.

Prices say to me that we’re getting pretty seriously into fear. Maybe not deeply into fear–I’m not yet reluctant to look at stock prices and I’m at about breakeven year-to-date–but still significantly so, given the extent of recent daily stock price drops.

What’s driving this? Why now?

–-rising interest rates. As I’m writing this, the 10-year Treasury note is yielding 1.54%. This compares with 0.5% last August, and 0.92% in early January. This is an expression of the belief that the domestic economy will likely improve to the point where emergency-low interest rates are no longer needed.

What should we consider as the end point for the 10-year? In 2017, the benchmark rate was around 2.4% – 2.5%. During the initial stimulus of the 2018 income tax cuts, the 10-year rose to 2.8% – 2.9%. It peaked at around 3.2%. During 2019, the yield fell steadily to around 1.75% – 1.85%, as the Fed loosened money policy to offset the weakness caused by Trump’s growth-retarding economic policies. Then came the pandemic and the US “it’s a hoax” response, which pushed yields to their August 2020 lows.

It would seem to me, in very simple-minded fashion (which is the best I can do), the first stop for the 10-year yield is a the return to pre-covid levels of around 1.8%. A full return to normal might imply a rise in yield to the previous 2.5%. To do that would likely require the end of covid plus the economy growing at a trend rate of close to 2%. My guess is that condition is a year away.

If I’m right, yields are up by 60bp so far in the “return to normal” adjustment, with another 25 – 30bp to go. So we’re already most of the way there.

—the end of “capital flight.” In its economics, the Trump administration reprised the the strategy Japan has followed, to its detriment, since the early 1990s–anti- workforce growth through immigration plus preserving the industries of the 1970s. …except for Trump it was the domestic industries of the 1950s. Investors sought to protect themselves from the negative consequences of this policy by focusing on secular change beneficiaries and on multinationals, especially those whose stock in trade is intellectual property and which therefore could easily shift operations abroad. Reversal of the relative decline of the Russell 2000 last November signaled the end of the need to pay a premium for this portability.

—perceived end of pandemic and the stay-at-home trade. The US was especially hard hit by the pandemic, with 20% of the world’s deaths from our 4% of the population. The Biden administration has made the pandemic a priority, however. By improving vaccine distribution and obtaining additional production capacity it looks like reopening will happen much earlier than anticipated. This realization has accelerated market rotation away from secular growth names toward business cycle sensitives.

when is enough enough?

The simplest answer is when yields stop rising. At the current pace, the 10-year Treasury will be yielding 1.75% before the end of the month. My guess is that this is probably enough.

For last year’s winning stocks, my sense is that selling is indiscriminate. At some point, the market will begin to distinguish between stocks whose chief/sole attraction is that they’re pandemic beneficiaries and those that will continue to prosper in a post-pandemic world. For the latter group, the primary concern of the market at present is price. Again, my guess is that this won’t change until bond yields are rising but that investors will refocus on long-term growth prospects once we get some fixed income stability.

Remember, this is all guesswork.

In my mind, the two viable approaches to a market like this are:

–to trust to the portfolio you’ve constructed and do nothing, or

–to try to upgrade holdings by adding to stocks that are being excessively hurt, getting the funds either from holdings of broad etfs or from secular growth stocks that are mysteriously relatively unscathed (assuming you have any)