Ask Colin

How do interest rates and Dividend Yields relate to each other?

Within certain constraints, notably transaction costs, investors are free to switch between bonds and stocks in search of the best returns. Assuming both bonds and stocks are properly priced already, if interest rates fall, stocks will be relatively more attractive than bonds. Rational investors will sell bonds and buy stocks. This will tend to increase the price of stocks. Since yields move opposite to prices, the dividend yields on stocks should fall.