By Joy Wiltermuth and Isabel Wang

Stocks fall, with the Nasdaq and S&P 500 retreating from record territory as bond yields suddenly jump

The Treasury market sold off sharply as Wall Street reacted to strong economic data and braced for more potential Federal Reserve rate hikes.

All eyes were on the jolt higher in U.S. Treasury yields on Wednesday after economic data on the manufacturing front surprised to the upside, sending a shock through the world's most important bond market.

The all-important benchmark 10-year Treasury yield BX:TMUBMUSD10Y surged 14.7 basis points to 5.113%, its highest level since July 2007, according to Dow Jones Market Data.

The level of this "affordability rate" matters for new mortgages, car loans and other forms of household debt, but the magnitude of the 10-year yield's rapid climb is also causing concern on Wall Street.

"It's not that rates are moving up, it's that they're jumping up," said Keith Lerner, chief investment officer at Truist Advisory Services. "The intensity of the move is hurting stocks."

The Dow Jones Industrial Average DJIA was off 0.6% on Wednesday, while the tech-heavy S&P 500 SPX and Nasdaq composite COMP were down 0.7% and 1.1%, respectively.

The Nasdaq was coming off a fresh record close on Tuesday, while the S&P 500 hasn't been far off its own record.

U.S. yields and the world

The jump in long-dated yields has been something Treasury Secretary Scott Bessent has been trying to avoid, including by implementing a series of increased U.S. debt buybacks through early November.

There's another up to $6 billion operation set for Thursday. Traders say those have had little impact on long-dated rates, while the bigger driver for the recent calm in bonds has been the Federal Reserve's decision last week to pivot to higher interest rates to fight inflation.

Dustin Reid, chief fixed-income strategist at Mackenzie Investments, said the calm in bonds now appears to be breaking down as traders brace for potentially more aggressive Fed rate hikes.

The odds of another hike in October jumped to about 69% on Wednesday, up from 55% a day ago, according to the CME FedWatch Tool. The chances of one or more increases by the central bank's December meeting were near 95%.

A climb in oil prices (BRN00) (CL.1) Wednesday and sharp swings in 10-year yields in Europe also have been a factor, said Tom di Galoma, a managing director at Mischler Financial Group, who noted sharp selling pressure out of Europe.

As the gap between U.S. interest rates and rates in other markets narrows, the cost for foreign investors to hedge their dollar exposure back into their home currencies falls, said Jordan Rizzuto, managing partner and chief investment officer at GammaRoad Capital Partners.

"That can make international bonds relatively more attractive and encourage foreign investors to move money back home instead of keeping it in U.S. Treasurys," Rizzuto said.

The Fed's next move

Yields in the U.S. moved sharply higher after Wednesday's release of S&P Global's U.S. flash manufacturing data for September showed the fastest expansion since July 2021 and a fourth straight month of gains.

The data pointed to "both halves of the Fed's problem at once," said Vincent Ahn, a portfolio manager at SLW Investments. He noted that the reading for services was 58.7, the best "in almost five years, and input costs rose at the fastest pace in four, with fuel and transport doing the damage." The market got booming demand and an oil-driven cost spike in a single report, he added.

The selloff deepened after a poorly received 5-year BX:TMUBMUSD05Y Treasury auction. Yields punched through key technical levels without finding resistance, which signals a hesitation among buyers to step in during the sharp rout.

When the Treasury market gets swept up in selling, yields increase, which pushes up borrowing costs for households, businesses and governments.

The inflation-sensitive 30-year Treasury yield BX:TMUBMUSD30Y climbed 9.9 basis points to 5.401%, its highest level since 2004, according to Dow Jones Market Data.

Tellingly, the 2-year Treasury yield BX:TMUBMUSD02Y jumped 11.8 basis points to 4.893%, its highest level in more than two years. When the policy-sensitive rate suddenly reprices by that much, it's a signal from Wall Street that more interest-rate hikes are expected from the Fed.

A growing fear this year has been that bond yields might spiral out of control, which could force the U.S. or other developed economies to invoke austerity measures to contain their large deficits.

Market function was steady Wednesday, despite the intense selloff, said John Velis, Americas macroeconomic strategist at BNY. The lack of a bigger Treasury buyback operation may have "irritated" traders a bit, he said, but the bigger issue still is the growing expectations for rate hikes.

The U.S. national debt topped $40 trillion last month, and there's been a tremendous borrowing need from the Treasury and from European nations, as well as for the artificial-intelligence build-out.

Clearly, a growing U.S. economy has helped support blockbuster corporate earnings and the bull market in stocks. But for now, the focus remains squarely on yields, especially with the start of third-quarter earnings season still a few weeks away.

-Joy Wiltermuth -Isabel Wang

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(END) Dow Jones Newswires

09-23-26 1548ET