The Yield Curve and the Stock Market

 

Via the link http://stockcharts.com/freecharts/yieldcurve.php what you will see are two graphics side-by-side. On the left will be the yield curve – that is, interest rates as they relate to each other from the 3-month Treasury Bill outward along the “curve” to the 30-year Treasury Bond. On the right is the S&P 500 Index from 1999 forward.

The Federal Reserve attempts to influence economic activity primarily through very short-term interest rates. Notionally, the Fed keeps short-term rates low when it hopes to stimulate economic activity and raises rates when it hopes to dampen economic activity. If you will, imagine the graph on the left is a gas pedal. When short-term rates are low, the Fed is attempting to “step on the gas”. Conversely, the Fed will raise short-term rates to “ease off the gas”.

Such stimulus or restraint affects the pace of economic activity and, as a consequence, affects longer-term interest rates and the so-called “yield curve”. It also has a profound influence on stock prices.

The folks at StockCharts.com have used their obvious technological wizardry to illustrate the relationship visually. Once open, click on “Activate” and enjoy the Dynamic Yield Curve, illustrating the relationship between the yield curve and the stock market since 1999.

We welcome your questions and feedback.