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good morning. It was an interesting reflection of the market mood that investors faced Friday’s weak headline employment and instead focused on the effects of low unemployment and all its inflation. Awkward times. Contact us by email: firstname.lastname@example.org and email@example.com.
Real interest rates have risen and tech stocks have fallen. perhaps.
Rising interest rates are bad for tech stocks.I read it so I know this is true In FT:
The technology-focused Nasdaq Composite Index fell 4.5% in the first five trading days of 2022. This was the worst of its annual debut, as the fear of a slowdown in China sent a shock wave to global financial markets six years ago.
Technology has fallen as US Treasury yields soared the most in 28 months as the Federal Reserve needed to raise interest rates more aggressively than previously expected.
There’s clearly something between tech stocks and interest rates, but I think it’s less than visible. There is no doubt that rising interest rates have recently reduced the performance of tech stocks, or more broadly, growth stocks. The Treasury yields over the last two years, plotted against the relative performance of the Russell value and the growth index, are:
The standard explanation for this is that higher rates mean higher discount rates that will be applied to future cash flows, as is always driven into our poor little heads. Large cash flows in the very future will be relatively less valuable when interest rates rise. As a result, growth stocks that have high expectations for distant cash flow will be hit harder. This is just math and so far it’s okay.
What was particularly striking about this week’s Treasury market movements was not the rise in inflation expectations, but the rise in real interest rates. For example, it is reflected in price-linked government bonds for five years. The blue line in the graph below. They rose a quarter percentage point, beyond what they had been stuck for over a year.
What is often said about real interest rates is that real interest rates are an indicator of growth expectations, and this logic would argue that growth expectations have risen this week. Indeed, FT report What some people think this way:
Investors and strategists said the $ 22 trillion US Treasury market move is a sign of increased comfort that the Omicron variant does not hinder recovery. Real yields on 10-year Treasuries, excluding the effects of inflation on debt, rose to minus 0.97%, the highest level since mid-December.
People also argue that real-yield growth, as opposed to nominal yield, is particularly bad news for technology, as it talks about growth. Again, this argument is well known. In markets where actual growth is low, growth stocks demand a premium.from article Bloomberg:
“When we see real yields improve, it’s going to be a much more difficult environment for technology,” said Christopher Harvey, Head of Equity Strategy at Wells Fargo. “Especially for” growth at all prices “stocks. The places you should see this are your high, high growth and your high multiple stocks. “.
“What was very important about yesterday’s sellout was that most of the price behavior was done at real yields, not breakeven,” BMO Capital Markets strategist Ian Ringen told Bloomberg TV on Tuesday. Stated. “That is, this is a story of growth, not inflation at this time.”
This basic story isn’t completely wrong, but it’s too simple and should be treated with caution. The reasons for skepticism are:
As I said PreviousThe inflation-adjusted government bond (Tips) market is not as fluid as the vanilla government bond market and is sensitive to Fed purchases and, in fact, peculiar supply and demand considerations. It may not contain a lot of useful information.
Subtly, it’s a bit strange to suggest that what happened last week was a sudden surge in growth expectations. The main news this week was that the Fed plans to tighten monetary policy more aggressively than previously expected. This is supposed to cool the economy, isn’t it? Maybe all real interest rates say “the Fed is tightening faster”.
If growth expectations really rose last week, credit spreads are expected to narrow. They spread the touch.
As my frequent correspondent Edward Al Hussiny of Columbia Threadneedle pointed out, the relationship between growth expectations and real interest rates is less decisive in the long run.Real interest rates are falling Much faster More than growth over the last few decades. Real interest rates are not a direct indicator of growth expectations.
The relationship between growth stocks and real interest rates looks like self-fulfilling prophecies and herd behavior, similar to the expression of economic logic. People think it should work this way, so trade accordingly. But the flock changes their minds.
Rethinking S & P10
We have been keen on how the excellent performance of the S & P 500 has been driven by what is called the S & P 10 which is the largest 10 stocks in the index. In December, we presented this chart showing the performance of the S & P 10 compared to the S & P 490 and compared to non-US equities.
Notice that the 490 outnumbers the world’s stocks. US stocks aren’t as spectacular as S & P 10, but they’re still killing it.Alas, we’re still a little sloppy, coming out of the holiday stupor. letter When we wrote last week:
Globally, the United States accounts for the majority of equity gains. And only a few stocks make up the majority of US profits.
As some readers have pointed out, the second sentence here is inaccurate. Some stocks may be driving the S & P 500’s extraordinary performance (our original point), which is already behind the world-leading performance of large-cap US stocks. One correspondent, Toplitzky & Co’s Jordan Toplitzky, said:
Chart accompanying your memo [“A perfect ten”, above] Probably provides a contradictory view. .. .. The other 490 S & P 500 shares managed a 20% increase compared to a 40% increase in the largest 10 shares. In my view, 20 percent isn’t too bad.
Some readers have also pointed out the S & P 500 Equal Weight Index (SPW). Some people Bad market width If you see SPW, don’t put up with it.
If that is true, I think any index composed of equally weighted components should show a decline in the last few months. Looking at S & P’s even weighted index, the argument is not supported.
And yes, SPW has been on track for the S & P 500 over the past year.
However, something exceptional has happened in the internal organs of SPW in the last few months. The index has recently been supported by a significant increase in energy stock, many of which have a higher SPW weight than the S & P 500. For example, Devon Energy, which has risen 160% in the last 12 months, is an index weight for SPW rather than S & P. This made it the second largest contributor to SPW performance, after the electric vehicle-the hyped Ford. The oversized profits of these small stocks are amplified by the SPW calculation method.
But over a longer period, the S & P 500 will outperform the SPW.
Over the last five years, the performance of the S & P 490 and SPW 490 (that is, excluding the largest 10 stocks from both indexes) has been about the same, suggesting that the S & P 10 will make a difference over time. The first conclusion that US stocks are exceptional thanks to S & P 10 is still true, provided that US stocks are still functioning well without it.
What does this all tell us about the breadth of the market? At first glance, this is good news. If S & P 10 falls, US stocks will wobble, but healthy SPW suggests that there are other sources of strength as well.
Other measures of width are not optimistic.Typically Quote The Bloomberg Index, which is the new 52-week high minus the low, contains a much wider range of equities than the S & P 500, but has bounced in the very negative territory for several months. 2021:
The market is narrowing.But keep in mind: the bad width Not a sure sign Of market correction. ((((Ethan Wu).
One good reading
The market increasingly believes that it is only a matter of time before the Fed begins to tighten quantitatively. But how does QT work? Always a great Fed Guy blog Joseph Wang There are details..
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Must tech fall when rates rise? Source link Must tech fall when rates rise?
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