The big move in US stock markets on Friday has the potential to introduce a period of higher volatility for world markets. However, while the wider stock markets have a degree of vulnerability to the prospect of higher interest rates it may pay to bear in mind that the sell- off in some yield sensitive sectors of the stock market has already been underway for some time.
Friday’s market adjustment to the possibility of higher rates has continued in early Asian trade with a sharp jump in Australian bond yields and a weaker opening in Asian oil markets.
Friday’s comments by Fed Governor Rosengren add to the impression created by both Janet Yellen’s recent speech and Mario Draghi’s more circumspect attitude towards additional monetary stimulus. They also strike a chord with what many investors have been thinking for some time. The balance of risks suggests global economies would now be best suited by a scenario where the US Fed cautiously leads world central banks out of the post GFC monetary easing cycle.
Governor Rosengren noted that the US economy could overheat if the Fed waited too long to raise rates. He is seen as a Fed "dove" so this comment adds to the impression that the majority of FOMC rate setting commitee is swinging behind the view that it's time for Fed to lift rates, if not in September, then by December.
Friday’s large drop in broader US stock indices is likely to trigger ongoing selling in the Australian market today.
However, this yield adjustment has been underway in some sections of the stock market for some weeks. In Australia, the yield sensitive Utilities sector finished on Friday 10% below its early August peak. The Real Estate Investment Trust sector is already 9% below its peak and the broader financial sector was down 4.5%. In the US, the S&P 500 utilities sector is also already 9% below its current peak. This may mean that the current sell-off, while likely to have further to go, may not be a severe as may seem likely. Perhaps the greatest vulnerability is now in the market darling stocks that have been well supported in recent weeks.