Nervousness about whether the Trump Administration can deliver on its fiscal stimulus has seen some volatility return to markets this week.

There’s an argument to say that the US stock market needs a correction, after reaching a valuation multiple of  19.1 times  forecast earnings  compared to an average of 16.6 over the past 4 years.

However, you have to query how much lower bond yields can get on the fiscal worry theme.  Yields on US 10 year notes are back down to 2.41% from the recent peak of 2.63%

US bond yields are about the Fed rate, inflation and expectations on those things over coming years. Credit risk doesn’t feature in the valuation of US Government Bonds.

Even assuming no extra fiscal stimulus from the US Government, the Fed Funds rate looks to be on a trajectory towards 3% over the next couple of years, with inflation back over 2%. It’s hard to see how the US 10 year note yield is going to stay below 3% if this scenario plays out.  If we do actually see more fiscal stimulus, then the upward pressure on bond yields (downward pressure on bond prices) would be more intense.

10 year note chart

All this provides an interesting back drop for the 10 year note chart which topped out at the 78.6% Fibonacci retracement level last night. Last night’s candle had a long upper wick, suggesting that rejection of this level is a real possibility.

If the 10 year note does reject this level, it could set up for price to drop below the major support around 123.2 with yields pushing above 2.6%. Not far above the well-entrenched resistance around 125.9 might be the place for long term short sellers to place a stop loss.

Gold chart

If interest rates do start to rise from here, it could trigger some profit taking in gold. It’s interesting to see that gold, like bonds, topped at the 78.6% Fibonacci retracement last night. From here, a lower low, confirming that this retracement level is being rejected, could lead to a downward correction in gold.