If investors are worried that stocks are vulnerable at this stage, it’s not obvious from the price trends in various market benchmarks. The SPDR S&P 500 ETF (SPY), for example, is trading near a record high, and recent volatility, so far, looks normal by historical standards.

Looking at the market through a factor lens tells a similar story. Notably, the key equity factors underpinning this year’s stock market rally remain largely intact. Until these corners start to crack, the recent weakness appears more consistent with a pause in the uptrend than the start of a prolonged correction.

On a year-to-date basis, not much has changed, based on a set of equity-factor ETFs through Friday’s close. Despite surging Treasury yields in recent weeks, the winning factors that have prevailed for much of 2026 continue to lead. Notably, the high-beta (SPHB) and momentum factors remain on track to outperform the rest of the field by a wide margin this year.

Some of this year’s bellwether leaders, including large-cap growth (IVW), rallied to new highs last week.

Most of the caution stemming from higher interest rates is currently being expressed through small-cap and defensive factors. Although the iShares Core S&P Small-Cap ETF (IJR) rallied sharply on Friday, the one-day rebound barely begins to reverse the fund’s deteriorating trend profile over the last two months.

A similar downshift has been playing out in the high-dividend factor (VYM). High-dividend stocks are often used as a gauge of defensive sentiment because investors tend to favor their stable income streams and relatively resilient business models when uncertainty rises. But recent market action suggests that the search for a safe harbor within equities has become less compelling lately.

Another measure of overall risk tolerance is the ratio of the broad market (SPY) to the low-volatility factor (USMV). This subset of the market is often used as a gauge of defensive positioning because investors tend to favor its historically steadier returns and lower downside risk when market uncertainty increases. The chart below highlights that the SPY:USMV ratio continues trending higher, suggesting investors remain inclined toward risk-taking and are largely downplaying concerns that interest rates and inflation will move materially higher from here.

The market’s implied forecast that downplays macro threats could be wrong, of course. But for now, the market’s underlying signals remain more supportive than cautionary.

The fuel powering the bull market is ultimately tied to corporate earnings, and a stumble on that front could present a deeper challenge to the bullish narrative. But as FactSet notes, the trend remains favorable. “Estimated earnings for the S&P 500 for the third quarter are higher today compared to expectations at the start of the quarter,” writes analyst John Butters. “In addition, the index is expected to report earnings growth above 25% for the third-straight quarter.”

Rising bond yields have undoubtedly complicated the outlook for equities, yet the market’s leadership profile continues to send a constructive message. As long as earnings data support the bullish outlook, high-beta and momentum strategies are likely to remain in favor.

Another source of optimism is resilient U.S. economic growth. The Atlanta Fed’s GDPNow model is nowcasting that the government’s initial estimate for third-quarter GDP, due later this month, will show a solid improvement from Q2.

For now, the bulls appear inclined to view higher yields as a byproduct of a strengthening economy rather than a warning sign for risk assets. There are good reasons to treat that narrative with caution. But until cracks begin to emerge in either earnings or economic growth, investors seem willing to grant the bull market the benefit of the doubt and keep climbing the wall of worry.

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● Gouged: The End of a Fair Price–and What That Means for Your Wallet
Lindsay Owens
Interview with author via Marketplace
Uber or Lyft users have probably experienced the concept of a personalized price firsthand: two people plug in the same destination, but get completely different prices for the exact same trip.
It’s a trend that’s on the rise as companies learn more and more about what makes consumers tick and tailor their prices accordingly. While the economic adage is “a fair price is any price you’re willing to pay,” for Lindsay Owens, the president and CEO of the think tank Groundwork Collaborative, personalized pricing isn’t necessarily that.
“I think a fair price is a posted price,” Owens said. “And a fair price is a price that is set based on the product and not you, the consumer.”
Lindsay Owens’ book, Gouged, makes the case against personalized pricing. Owens made the case against personalized pricing in her book, “Gouged: The End of a Fair Price — and What That Means for Your Wallet.” “Marketplace” host Kai Ryssdal spoke to her about her writing.

● The Power to Destroy: How Bad Economics Drove America’s Decline
James K. Galbraith
Review via Financial Times
James K Galbraith argues that an over-reliance on outdated ideas in economics has led US policymakers to make bad decisions.
The American economist provides a detailed analysis of recent challenges — from the post-pandemic surge in inflation and sanctions against Russia, to the rise of China and efforts to spark a manufacturing renaissance — attempting to show how a blind focus on the doctrines of economics may have contributed to flawed thinking and actions.
In his assessments, Galbraith, who teaches at the University of Texas at Austin, makes several worthwhile points. He is rightly critical about how the discipline has ended up putting too much emphasis on single indicators such as GDP, inflation and fiscal balances, which fail to give a holistic view of economic health and welfare. He also shows how the logic of mainstream economics may have lulled America into a false sense of security by overlooking the importance of industrial resilience and national security in favour of a narrow focus on GDP growth and market efficiency.

● Broken China: How the Economic Miracle Shattered and What it Means for the World
Logan Wright
Interview with author via China Leadership Monitor
Q: The central argument of your book is that China’s economic model is “broken.” As there are many different versions of the so-called “China model,” can you explain what you mean by the “China model” and why it is now broken?
A: Indeed, the book argues that China’s financial system can no longer generate the same rates of economic growth because that financial system has already expanded much faster than the real economy for nearly a decade after the global financial crisis. A financial system can only outpace the underlying economy it finances by either “deepening” access to financial services—expanding new forms of lending to new borrowers—or by taking on new credit risks, by lending to riskier borrowers. Often these go hand in hand.

Please note that the links to books above are affiliate links with Amazon.com and James Picerno (a.k.a. The Capital Spectator) earns money if you buy one of the titles listed. Also note that you will not pay extra for a book even though it generates revenue for The Capital Spectator. Thank you!

GMI is The Capital Spectator’s proxy for a market‑value‑weighted blend of the major asset classes (excluding cash) using ETFs. The expected return is calculated as the average of three models, defined below.

Today’s revised GMI return forecast is 8.3%, up slightly from last month’s estimate but still well below the benchmark’s trailing return over the past 10 years. The gap has been narrowing lately and now stands at just 1.3 percentage points.

In line with recent history, several of GMI’s underlying asset classes continue to post projected returns that fall well short of their realized returns over the past decade, as highlighted by the red boxes in the far-right column of the table below. This negative disparity suggests a more cautious forward-looking outlook than recent performance alone would indicate. The largest negative gap is now in commodities, followed closely by U.S. stocks. The same warning sign applies to GMI, although to a much lesser degree: GMI’s projected annual return of 8.3% is moderately below its 9.7% annualized return over the previous decade.

GMI represents a theoretical benchmark for the “optimal” portfolio that’s suited for the average investor with an infinite time horizon. Given those practical limitiations, GMI is useful as a starting point for customizing asset allocation and portfolio design to match a particular investor’s expectations, objectives, risk tolerance, etc. GMI’s history suggests that this passive benchmark’s performance will be competitive with most active asset-allocation strategies, especially after adjusting for risk, trading costs and taxes.

It’s reasonable to assume that some, most or possibly all of the forecasts above will be wide of the mark in some degree. GMI’s projections, however, are expected to be somewhat more reliable vs. the estimates for its  components. Predictions for the specific markets (US stocks, commodities, etc.) are subject to greater variability compared with aggregating the forecasts into the GMI estimate, a process that may reduce some of the errors through time.

Another way to view the projections above is to use the estimates as a baseline for refining expectations. For instance, the point forecasts above can be adjusted with additional modeling that accounts for other factors and assumptions not used here, such as current valuation and the implied return forecasts. Customizing portfolios for a specfic investor, to reflect risk tolerance, time horizon, and so on, is also recommended.

For perspective on how GMI’s realized total return has evolved through time, consider the benchmark’s track record on a rolling 10-year annualized basis. The chart below compares GMI’s performance vs. ETFs tracking US stocks and US bonds through last month. GMI’s current return for the past ten years is a robust annualized 9.7%, modestly above July’s performance.

Here’s a brief summary of how the forecasts are generated and definitions of the other metrics in the table above:

BB: The Building Block model uses historical returns as a proxy for estimating the future. The sample period used starts in January 1998 (the earliest available date for all the asset classes listed above). The procedure is to calculate the risk premium for each asset class, compute the annualized return and then add an expected risk-free rate to generate a total return forecast. For the expected risk-free rate, we’re using the latest yield on the 10-year Treasury Inflation Protected Security (TIPS). This yield is considered a market estimate of a risk-free, real (inflation-adjusted) return for a “safe” asset — this “risk-free” rate is also used for all the models outlined below. Note that the BB model used here is (loosely) based on a methodology originally outlined by Ibbotson Associates (a division of Morningstar).

EQ: The Equilibrium model reverse engineers expected return by way of risk. Rather than trying to predict return directly, this model relies on the somewhat more reliable framework of using risk metrics to estimate future performance. The process is relatively robust in the sense that forecasting risk is slightly easier than projecting return. The three inputs:

* An estimate of the overall portfolio’s expected market price of risk, defined as the Sharpe ratio, which is the ratio of risk premia to volatility (standard deviation). Note: the “portfolio” here and throughout is defined as GMI

* The expected volatility (standard deviation) of each asset (GMI’s market components)

* The expected correlation for each asset relative to the portfolio (GMI)

This model for estimating equilibrium returns was initially outlined in a 1974 paper by Professor Bill Sharpe. For a summary, see Gary Brinson’s explanation in Chapter 3 of The Portable MBA in Investment. I also review the model in my book Dynamic Asset Allocation. Note that this methodology initially estimates a risk premium and then adds an expected risk-free rate to arrive at total return forecasts. The expected risk-free rate is outlined in BB above.

ADJ: This methodology is identical to the Equilibrium model (EQ) outlined above with one exception: the forecasts are adjusted based on short-term momentum and longer-term mean reversion factors. Momentum is defined as the current price relative to the trailing 12-month moving average. The mean reversion factor is estimated as the current price relative to the trailing 60-month (5-year) moving average. The equilibrium forecasts are adjusted based on current prices relative to the 12-month and 60-month moving averages. If current prices are above (below) the moving averages, the unadjusted risk premia estimates are decreased (increased). The formula for adjustment is simply taking the inverse of the average of the current price to the two moving averages. For example: if an asset class’s current price is 10% above its 12-month moving average and 20% over its 60-month moving average, the unadjusted forecast is reduced by 15% (the average of 10% and 20%). The logic here is that when prices are relatively high vs. recent history, the equilibrium forecasts are reduced. On the flip side, when prices are relatively low vs. recent history, the equilibrium forecasts are increased.

Avg: This column is a simple average of the three forecasts for each row (asset class)

10yr Ret: For perspective on actual returns, this column shows the trailing 10-year annualized total return for the asset classes through the current target month.

Spread: Average-model forecast less trailing 10-year return.

Learn To Use R For Portfolio Analysis
Quantitative Investment Portfolio Analytics In R:
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The big winner was commodities with a strong 4.5% gain last month. The increase extends the winning streak for raw materials to a third straight monthly advance, as measured by the iShares S&P GSCI Commodity-Indexed Trust (GSG), an energy-heavy portfolio. A cash proxy (SHV) was the only other gainer in September, posting a 0.3% increase.

Widespread selling took a toll on the rest of the major asset classes. U.S. real estate investment trusts suffered the most, dropping 6.2%, based on Vanguard Real Estate (VNQ), the ETF’s steepest monthly decline in nearly two years.

The rout in the bond market became more conspicuous last month. The U.S. investment-grade bond fund (BND) fell 2.6%, marking its worst monthly decline in four years.

The recent correction across most markets has left a mixed profile for year-to-date results. Commodities (GSG) remain the standout performer by far in 2026, surging more than 54%. Stocks in the U.S. (VTI) and overseas (VEA and VWO) continue to post solid gains this year, while a fund tracking foreign property shares (VNQI) is leading the downside with a 7.2% loss.

In contrast with the latest rally in commodities overall, gold (GLD) bucked the trend, posting a steep 6.8% decline in September and is now nursing a modest loss for the year. Bitcoin (GBTC), by contrast, extended its recent rebound and rallied 5.9%, although the crypto fund remains moderately lower for the year.

The Global Market Index (GMI) shed 1.6% in September, marking its third loss in the past four months. GMI is an unmanaged benchmark (maintained by The Capital Spectator) that holds all the major asset classes (except cash) in market-value weights via ETFs and serves as a competitive benchmark for globally diversified, multi-asset-class portfolio strategies. Year to date, GMI is up 14.1%, outperforming the majority of its components so far in 2026.

.

Much depends on whether rates keep rising. For the moment, the trend is pointing in that direction. The U.S. 10-year Treasury yield climbed to 5.25% on Tuesday, the highest level in nearly two decades.

The case that the runup in yields is largely a function of stronger economic activity looks reasonable, perhaps even persuasive, based on the latest nowcasts for third-quarter GDP. The projected growth rate has risen to a 3.2% annualized pace, based on the median estimate from a set of forecasts compiled by The Capital Spectator. If accurate, growth will more than double from Q2’s modest 1.5% increase.

The median Q3 nowcast reported by The Capital Spectator has been rising in recent weeks. Two of the inputs are running especially hot, with forecasts of 5% growth and higher.

The survey-based US Composite PMI Index, a widely followed GDP proxy, surged in last week’s preliminary September estimate, rising to 58.4, a 62-month high. Based on The Capital Spectator’s estimate, that reading is consistent with a 5.8% annualized increase in GDP.

The Atlanta Fed’s GDPNow model isn’t far behind. Its September 25 nowcast indicates 5.0% growth for Q3.

The debate in the bond market is how much of the rise in yields is being driven by accelerating economic activity versus less favorable factors, including inflation concerns. Although price pressures appear relatively stable in the latest data, that stability reflects inflation running well above the Federal Reserve’s target, which recently prompted the central bank to raise interest rates for the first time in more than three years.

Elevated energy costs are a key component for the inflation concern, driven by the ongoing conflict with Iran. Near-term relief in the form of lower oil, gasoline, and diesel prices does not appear imminent after President Trump rejected Iran’s peace proposal on Saturday.

By some accounts, a meaningful decline in energy costs may require a significant slowdown in economic activity if the Iran conflict continues in its current form. If Treasury yields continue to rise, it is reasonable to assume that higher borrowing costs will eventually slow economic activity, if only at the margins.

Another factor that appears to be contributing to higher yields has no obvious short-term solution. Treasury yields may be reflecting a growing fiscal risk premium as investors grapple with the prospect of persistently large deficits and a national debt burden that appears unlikely to be meaningfully addressed anytime soon.

New York Fed President John Williams yesterday gave bond investors a modest reason to dial back expectations for additional monetary tightening, at least in the immediate future. He downplayed the inevitability of another rate hike at next month’s FOMC meeting, saying there was “no need for urgency” and that “we have time to gather more information” before making the next policy decision.

The policy-sensitive 2-year Treasury yield took the hint and edged lower yesterday, but longer-term bonds largely ignored the comments. Notably, the 30-year Treasury yield, the most sensitive maturity to long-run inflation and fiscal concerns, continued to climb, ending Tuesday’s session at 5.57%, the highest level since 2002.

For now, the bond market appears unconvinced that slower growth, lower inflation, or fiscal restraint are close at hand. Until one of those narratives gains traction, Treasury yields may continue marching higher, testing not only the economy’s resilience but also investors’ willingness to keep pricing in a best-case scenario centered on improving economic activity.

Economists are expecting headline PCE to hold steady at a 3.7% year-over-year pace, far above the central bank’s 2% target, according to Econoday.com’s consensus forecast. Core PCE, which strips out food and energy and offers a better measure of the underlying trend, is projected to tick down to 3.2%. The overall report, if accurate, will do little to persuade policymakers that more rate hikes are unnecessary.

For the moment, the inflation outlook appears steady, albeit at a pace that’s becoming harder for the Fed to tolerate with no end in sight to the energy-supply disruption stemming from the Iran conflict. The Cleveland Fed’s nowcast projects that PCE inflation’s one-year trend will basically hold at or near current levels through September. Ditto for the outlook for the Consumer Price Index (CPI).

A significant downside surprise in tomorrow’s PCE update could trigger a change in expectations and give the Fed more space to delay another hike. But for now, the bond market is downplaying that possibility. The policy-sensitive 2-year yield continues to trade at its highest level in over two years, ending Monday’s session at 4.93%. Since the Fed lifted its target rate by 25 basis points on Sep. 16, the 2-year yield has reacted by matching the increase, which is to say the market’s expectation for more policy tightening is unchanged.

Longer maturities continue to signal ongoing concern about inflation and the outlook for relatively robust economic growth. The 10-year yield broke above its recent high on Monday, closing at 5.24%, the highest level in nearly two decades.

Economists are debating how much of the rise in yields is driven by inflation anxiety, concerns about ballooning federal debt, and the recent strengthening in economic activity. The AI boom’s enormous demand for financing may also be contributing to higher Treasury yields by increasing competition for available capital. However one parses these factors and their relative influence, they amount to a collective force that’s raising borrowing costs.

The ongoing rise in the price of diesel fuel is becoming increasingly worrisome for the inflation outlook. As a key input for freight transportation and industrial activity, higher diesel prices tend to filter through to broader consumer prices.

Discussions in Washington about restricting U.S. exports of diesel underscore the level of concern. But a ban on diesel exports could backfire by disrupting refinery economics and global fuel markets, potentially reducing production incentives and creating supply shortages that ultimately push prices even higher.

“Higher diesel prices are a concern, but the main driver of the higher prices is the war in Iran,” says Gbenga Ajilore, chief economist at the Center on Budget and Policy Priorities. “End the war in Iran, open up the Strait of Hormuz, and diesel prices will fall.”

This much is clear: the market is pricing in another rate hike for the next FOMC meeting on Oct. 28, based on Fed funds futures, which estimate a 68% probability of tightening.

After months of hoping that inflation was steadily fading into the background, investors are once again confronting the possibility that price pressures remain stubbornly persistent. Tomorrow’s PCE report may not settle the debate, but it is poised to shape the next chapter in the market’s ongoing tug-of-war between inflation and interest rates.

The factors driving yields higher, including inflation concerns, a hawkish Fed, and US fiscal risk, are likely to remain in play in the near term, if not longer. Meanwhile, the yield trend continues to point to higher levels over the near term. Until yields begin to consolidate within a range, technical signals continue to favor higher rates ahead.

A practical way to manage risk in a rising-yield environment is to reduce the need for forecasting. A bond ladder holds a range of maturities rather than concentrating exposure at a single point on the yield curve. As shorter-term bonds mature at regular intervals, the proceeds can be reinvested at prevailing interest rates, allowing investors to adapt to changing market conditions without having to anticipate future moves in yields or the broader market.

The key challenge with a ladder is deciding how to structure the maturity range and weighting. There are no simple answers, since a number of investor-specific variables come into play, including risk tolerance, investment objectives, and time horizon. A strategy that targets maturities of one through 10 years will carry less risk than a range of one through 30 years, although the latter may provide a higher yield and total return.

A baseline strategy is to simply equal-weight maturities across the selected range. There are several advantages, including transparency, diversification, sidestepping timing risk, and a clear set of rebalancing rules. The drawbacks include ignoring information embedded in the yield curve, which can lead to weaker results relative to a more sophisticated strategy that responds to changing market conditions.

As one example of a more adaptive ladder strategy, an investor can favor maturities with the most attractive yield-for-risk tradeoff based on current conditions by comparing duration with yield. The goal is to tilt the ladder toward the best balance between yield and interest-rate sensitivity.

There are many alternatives to this simple formulation, including countless models that seek to optimize a ladder based on a given set of variables. One of the more popular frameworks is the standard Nelson-Siegel (NS) model, which analyzes the yield curve through three lenses: its overall level, slope, and curvature. When applied to a bond ladder, those factors help identify which maturities currently offer the most attractive balance of yield and interest-rate risk, providing a systematic framework for allocating capital across the curve.

There are multiple ways to customize NS to reflect a particular set of preferences and assumptions. In the interest of monitoring the Treasury curve, here’s a setup I’ll periodically update to provide perspective on how yield-curve signals are evolving. In this version, the modeling seeks to quantitatively answer the question: How should I structure a bond ladder to optimize for current conditions? The key assumption is that the recent shape of the yield curve is a reasonable proxy for how bonds will behave going forward, based on NS modeling. The goal is primarily risk allocation rather than return forecasting.

The current allocation is shown in the bottom chart (blue line) and is compared with results based on data from 20 and 100 days earlier.

The main takeaway is that the recommended weights have recently increased for maturities roughly between 7 and 20 years. Trend analysis suggests that yields will continue to climb, which implies that the model above may continue lifting weights for some maturities in the belly of the curve in the near future.

Rising yields have been painful for bondholders, but they are also creating opportunities that haven’t existed in years. As income levels improve across the curve, the focus increasingly shifts from simply managing downside risk to identifying where investors are being best compensated for taking duration risk. That’s a calculation that will continue to evolve as the Treasury market searches for its next equilibrium.

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● Worth the Risk: The Seven Myths That Keep Us from Taking the Chances We Need to Take
Allison Schrager
Excerpt via Bloomberg
At least once a year, regardless of market conditions, some investment bank or another announces that it is “redefining” investing. I remember attending a presentation way back in 2019 at which a senior banker argued that, after nearly a decade of low bond yields, the standard 60/40 portfolio (60% stocks, 40% bonds) needed to be rethought. After a long song and dance, his “redefinition” amounted to putting some riskier assets in the bond portfolio to goose returns.
Now the US is in a higher-interest-rate environment, and once again there is a lot of redefining going on. One change is that it’s finally good to be a saver again. The catch is that saving isn’t quite as safe as it used to be.

All the Wrong Moves: How Three Catastrophic Decisions Led to the Rise of Trump
Anthony Scaramucci
Interview with author via Next Question with Katie Couric
Anthony Scaramucci’s life has taken more twists and turns than most. He built a successful career on Wall Street, then spent a memorable (and famously brief) 11 days as President Trump’s White House communications director. Since then, he’s become a bestselling author, co-host of the hit podcast The Rest Is Politics: US, and one of the president’s most outspoken critics.
His new book, All the Wrong Moves: How Three Catastrophic Decisions Led to the Rise of Trump, argues that today’s political divisions didn’t emerge overnight. Instead, Anthony traces them back to three bipartisan policy decisions that he believes fundamentally reshaped the American Dream and set the stage for where we are today.

● The Time Tax: How the Government Wastes Our Time—and How to Fix It
Annie Lowrey
Review via The Economist
Governments often treat your time as if it had no value. As monopolies, they know you cannot shop elsewhere for a passport or permit. So whereas it takes only one click to have Thai food delivered to your door by a private firm, the form for people in Michigan seeking public support until recently had 1,000 questions, many in impenetrable bureaucratese and some pointlessly intrusive (such as “what is the date of conception of your children?”).
America is not the worst offender. But as Annie Lowrey describes in “The Time Tax”, it is unusually bad for such a rich country. Americans spend five times as much time on government form-filling as Danes, Brits or South Koreans. Whereas the much poorer and more numerous citizens of India all have a digital biometric ID, Americans are still shuffling paper.

Please note that the links to books above are affiliate links with Amazon.com and James Picerno (a.k.a. The Capital Spectator) earns money if you buy one of the titles listed. Also note that you will not pay extra for a book even though it generates revenue for The Capital Spectator. Thank you!

To measure how interest rate-sensitive equities compare with the stock market overall, I focused on eight subcategories and calculated their average performance to track how these groups have been faring.

The stock market overall is still posting a solid year-to-date gain and continues to trade near its recent high, based on the SPDR S&P 500 ETF (SPY). But as the chart below shows, interest rate-sensitive categories in general have posted sharply weaker results. The average year-to-date performance for these groups is a 3.6% gain this year, well below the 12% peak reached in mid-August (red line in the chart below).

This relatively weak performance in recent weeks highlights a growing gap versus the broad market, a gap that’s likely to widen if Treasury yields continue to rise.

Several factors are driving the bond market’s repricing of yields, including inflation expectations, uncertainty surrounding the Iran conflict, concerns about ballooning federal debt, and changing economic conditions. For now, all of these factors have contributed to the bond market rout that has been pushing yields higher.

The possibility of a shifting risk landscape could change the calculus. For example, Iran in the last few hours has made a new offer to reopen the Strait of Hormuz if Washington accepts its conditions, including resuming nuclear talks with the U.S. It’s unclear whether this will lead to anything substantive, but oil prices edged lower this morning on the news, a reminder that circumstances can change quickly.

Another factor to monitor is the recent acceleration in U.S. economic activity. If yields continue to rise, the higher cost of borrowing will eventually slow the pace of growth, which in turn could reduce upward pressure on rates. In other words, yields will peak at some point, potentially creating compelling buying opportunities for both bonds and interest rate-sensitive stocks.

Although no one can reliably forecast when yields will reach their peak, the recent rise in rates is gradually improving the opportunity set for long-term investors. Higher yields increase the income available from bonds, while the selloff in interest rate-sensitive equities is creating more attractive valuations in several areas. The near-term outlook remains uncertain, but patient investors may ultimately find that today’s market turbulence is laying the groundwork for stronger future returns.

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Comments from a Fed governor and survey data on business conditions roiled the bond market on Wednesday, sending Treasury yields sharply higher and raising the odds of a hike in the Fed funds futures market.

The one-two punch started with Wednesday’s release of business survey data. The US Composite PMI Output Index, a GDP proxy, surged in September, indicating the fastest growth in more than five years. The Atlanta Fed’s GDP nowcast for the upcoming third-quarter report also points to a strong acceleration in top-line growth over the modest gain report for Q2. Good news for the economic outlook, but the bond market focused on the survey report’s price data, which continued to rise.

“Price pressures intensified in September,” S&P Global’s PMI release advised. “Average input costs measured across both goods and services surged higher, with the overall rate of inflation hitting its highest level since October 2022. The increase was widely blamed on higher fuel and transport costs, though wage pressures were also noted to have picked up in many cases.”

The rising input costs “will add further to the upward pressure on selling prices and inflation in the coming months,” wrote Chris Williamson, chief business economist at S&P Global Market Intelligence.

Shortly after the PMI was published, Fed Governor Michael Barr said “further policy adjustments are likely to be needed to ensure inflation comes down to target in a timely fashion.” Speaking at a conference in Chicago, he explained that “inflation is above our 2 percent target and not clearly trending toward target in a timely way. Moreover, risks to achieving our inflation target have increased, while risks to the labor market have receded.”

The bond market reacted by driving yields higher on Wednesday to a degree that is unusual by historical standards. The 10-year Treasury yield soared to 5.12%, reaching yet another 19-year high.

The policy-sensitive 2-year yield also rose sharply, closing at 4.90%. The nearly one-percentage-point spread over the Effective Fed Funds Rate (the volume-weighted median interest rate that commercial banks charge one another for overnight loans) reflects the market’s confidence that more policy tightening is near.

The repricing of Fed funds futures also reflects the latest shift in expectations. This market is now pricing in a 73% probability of a rate hike at the next FOMC meeting on Oct. 28.

Attention now turns to next week’s August update of the Personal Consumption Expenditures (PCE) Price Index, the Fed’s preferred inflation measure. Wall Street analysts and the Cleveland Fed’s nowcast expect that price pressures will remain above a 3% year-over-year pace, well above the central bank’s 2% target. If correct, the data will reinforce Barr’s hawkish comments favoring additional tightening.

Even if inflation data justify additional tightening, the Fed would be taking a calculated risk by raising rates on the eve of the midterm elections. The move will reinforce the central bank’s inflation-fighting credentials, but it could also expose policymakers to accusations that they are unnecessarily adding economic headwinds at a politically charged moment when Republicans are trailing in a number of polls. For a Fed that zealously guards its independence, the optics of a pre-election hike could be nearly as consequential as the policy decision itself.

Learn To Use R For Portfolio Analysis
Quantitative Investment Portfolio Analytics In R:
An Introduction To R For Modeling Portfolio Risk and Return
By James Picerno