The investment bank says the 15 per cent rise in 10-year gilt yields at the end of 2009, from 3.6 per cent to 4.1 per cent, was the biggest hike in yields since January 2009 and had only happened twice before that, in February 1999 and February 1994.
Morgan Stanley analyst Graham Secker says: “At current levels such sovereign yields are not problematic for stocks. However, we expect yields to rise further over the course of 2010, reflecting a stronger economic environment, somewhat higher inflation, a large ramp-up in supply and, from time to time, fiscal concerns.”
Even so, Secker stresses that the possible market adjustment will not spell the end of the market’s bull run. Morgan Stanley notes that historically, P/E ratios were down 2 per cent, on average, in the 12 months post any bond yield trough.
Secker says: “We believe the UK will ‘limp out of recession’. Although the recent data news flow for the domestic economy has been a bit better than expected, we would use this as evidence that the economy is coming out of recession, rather than an indication as to the strength of the recovery.”
Charles Stanley director of private client research Jeremy Batstone-Carr agrees that yields are likely to rise, but argues that this will adversely affect the economy.
He says: “Yields rising sharply will raise interest costs to the Government and effectively choke off any anaemic recovery that might be in the pipeline, in part a consequence of even more aggressive fiscal policy and in part by driving yields on other domestic loans higher.
“The domestic housing market, apparently crawling out of the morass of the past couple of years would be extremely vulnerable to such a reversal. While 10-year gilt yields are still low, although this may have as much to do with quantitative easing as anything else.”