What are the capital market effects during the early upswing phase?

In the early upswing phase of the business cycle, short interest rates typically begin to rise as the economy starts to recover from a slowdown. Central banks often respond to improving economic conditions with adjustments in monetary policy, which can lead to increasing rates for short-term borrowing. This is because a growing economy may prompt central banks to tighten monetary policy to prevent overheating and manage inflation expectations.

As economic activity accelerates, increasing demand for capital can also lead to upward pressure on short-term rates, reflecting improved economic sentiment and expectations for growth. This dynamic is critical for investors to understand, as it can influence investment decisions and asset allocation strategies.

In this context, other choices can be ruled out based on the characteristics of an early upswing. For example, long-term yields being highly volatile is not a defining feature of this phase; rather, they might stabilize as investors gain confidence in economic recovery. Similarly, stock declines are typically characteristic of recessionary or recovery phases rather than an early upswing. Lastly, government bonds generally underperform stocks during early upswing phases as investors move towards riskier assets, expecting equity markets to flourish with improved growth conditions. Thus, the correct answer reflects the anticipated increase in short rates due to economic recovery signs.