The S&P 500 is holding near all-time highs even as long-term U.S. Treasury yields approach levels last seen two decades ago. This divergence challenges the conventional view that high interest rates automatically trigger stock market declines, suggesting that corporate earnings growth is currently offsetting the pressure from rising borrowing costs.
For much of the period from 2009 to 2022, U.S. equities benefited from ultra-low interest rates. These conditions made bonds less attractive compared to stocks and reduced the discount rate applied to future corporate earnings, which helped support higher stock valuations. Instruments such as the Vanguard S&P 500 ETF and the Vanguard Total Stock Market ETF participated in this broad equity rally. However, those specific market conditions are no longer present.
Currently, both the 10-year and 30-year Treasury yields are near two-decade highs, standing at 5.32% and 5.70%, respectively. With both rates well above 5%, justifying high stock valuations has become more difficult. The artificial intelligence boom is generating strong earnings growth that helps keep the S&P 500 elevated, but the margin for error is narrowing. While most investors view high interest rates as a negative for stocks, historical patterns indicate the relationship is more complex.
Interest rates can rise for different reasons. In some cases, yields move higher due to high inflation. In other instances, they rise because economic growth is strong and corporate earnings are accelerating. The current economy exhibits elements of both factors. Revenue and earnings growth driven by the AI boom are offsetting some of the pressure from inflation and Federal Reserve rate hikes. This dynamic explains why the bond market has experienced significant declines while the S&P 500 remains near its peak levels.
This resilience is not uniform across all market segments. September sector returns show that the positive performance is not holding across the board, though major indexes are sustaining their strength for now. Stocks do not strictly require falling interest rates to move higher; fundamentals and earnings play a significant role in price appreciation.
For months, many analysts have forecasted an economic downturn and a stock market correction based on the narrative of rising rates. Investors who remained in broad market funds like the Vanguard S&P 500 ETF and the Vanguard Total Stock Market ETF have been rewarded for maintaining their positions despite these predictions. The future remains uncertain, which supports a long-term buy-and-hold strategy that prioritizes long-term goals over short-term market noise.
If corporate earnings grow as expected in 2026 and 2027, fundamentals could support the continuation of the current rally. Even if interest rates continue to rise, allowing the economic story to play out may be the appropriate course of action.