Surging Yields and Stronger Dollar Test Narrowing Market

Markets became more selective this week as a sharp move higher in Treasury yields overwhelmed some of the optimism surrounding artificial intelligence.

The Nasdaq-100 and S&P 500 remain slightly higher since last week, while the Dow Jones Industrial Average and Russell 2000 moved lower. This divergence underscores a familiar theme: large-cap technology continues to support the headline averages even as smaller companies, financials, and other rate-sensitive areas struggle.

Economic Growth, Yields Hint at More Rate Hikes

The bond market is the week's dominant macro story, as signs of stronger economic growth, and persistent inflation pressure, increased expectations that the Federal Reserve may need to tighten again.

A surprisingly strong U.S. business-activity report sent yields sharply higher Wednesday, with the 10-year Treasury yield closing above 5.1%, while the 30-year reached levels last seen in the mid-2000s. September's S&P Global U.S. Composite Flash PMI climbed to 58.4 from 56.0 in August, its strongest reading in more than five years, as new orders surged and input-price pressures remained elevated.

On Thursday, the 10-year yield topped 5.181% on the session and the 30-year, 5.47%.

Earnings Headwinds as Dollar Strengthens?

Rising U.S. yields also pushed the dollar to nearly a two-month high, as investors sought higher returns in dollar-denominated assets. A stronger dollar creates an additional headwind for the Dow because many of its largest companies generate substantial revenue overseas. Foreign sales translate into fewer dollars when the currency strengthens, while U.S.-made goods can become more expensive for overseas customers. The impact differs by company depending on currency hedging and foreign operating costs, but sustained dollar appreciation can become a meaningful earnings headwind for multinational firms.

S&P 500 Sectors Impacted by Rising Rates

From a sector standpoint, Communication Services, Technology, and Healthcare were the top performers. Communication Services received a major boost from Meta Platforms (META), whose new Muse AI assistant gained rapid early adoption and revived expectations for a meaningful new consumer-AI revenue stream. Meta's rally also helped reignite enthusiasm across parts of the semiconductor complex and contributed to strength in Nasdaq early in the week.

The weakest sectors were Utilities, Energy, Financials, and Real Estate. Utilities and Real Estate were particularly vulnerable to the surge in yields because their dividend and cash-flow characteristics compete directly with increasingly attractive bond returns. Financials also underperformed despite higher nominal rates, as rapidly rising funding costs, deposit competition, and bond-market volatility complicated the traditional higher-rate benefit for banks.

Inflated Energy Costs Remain

Energy weakness reflected a modest retreat in crude from its mid-September peak, even though geopolitical risk remained elevated. Oil eased early in the week as markets hoped U.S.-Iran talks at the United Nations could produce progress and Saudi Arabia restored some export capacity through its East-West Pipeline. Those hopes faded Wednesday after Iranian officials said the two sides remained far apart, while Tehran reiterated that it would not yield to U.S. pressure.

Refined products remained a separate inflation concern. Heating-oil futures received some relief from discussion surrounding diesel-export restrictions, but gasoline remained firm as refiners devoted more capacity to higher-priced diesel production.

Overall, the message of the market is not reflective of broad market weakness, but more so about narrowing leadership under tighter financial conditions. Large-cap technology continued to carry the S&P 500 and Nasdaq, but the Dow, small caps and interest-rate-sensitive sectors struggle. With Treasury yields at multi-decade highs and the dollar strengthening alongside them, macro conditions are again becoming as important to equity performance as earnings and AI enthusiasm.

This material is intended for informational purposes only and should not be considered a personalized recommendation or investment advice. Investors should review investment strategies for their own particular situations before making any decisions.

Schwab Network is brought to you by Charles Schwab Media Productions Company (“CSMPC”). CSMPC is a subsidiary of The Charles Schwab Corporation and is not a financial advisor, registered investment advisor, broker-dealer, futures commission merchant or forex dealer member.

Charles Schwab Media Productions Company and all third parties mentioned are separate and unaffiliated, and are not responsible for one another's policies, services or opinions.

Data contained herein is obtained from what are considered reliable sources. However, its accuracy, completeness, or reliability cannot be guaranteed. All events and times listed are subject to change without notice.