Band Jamie McGeever
ORLANDO, Fla., January 19 (Reuters) – The U.S. tech sector has single-handedly fueled the Wall Street rally in recent years, but it’s been battered by dramatic repricing in bond yields and Federal Reserve interest rate expectations.
And it may break down more before it recovers. Until recently, soaring borrowing costs in the United States were largely due to shifts in expectations about how quickly and by how much the U.S. central bank will raise the federal funds interest rate. .
But “quantitative tightening” – “QT”, or the Fed shrinking its balance sheet – is now on the agenda for 2022. This has opened up the possibility of even higher bond yields and the possibility of further weakness in equities. , especially technology.
The Nasdaq Composite .IXIC is off to its worst start to the year since 2016. On Tuesday, it recorded its third daily decline of 2.5% or more this year – it’s down 7% so far this month, and 10% from compared to its record at the end of November.
The 10-year Treasury yield has jumped more than 50 basis points in the past six weeks. The big question now is: how close is the bond market to pricing across the full extent of Fed tightening this year?
History shows that much of the impact on bond yields from quantitative easing, or QE, comes from the announcement of the policy, not from its implementation. Same with QT.
The notion of QT in 2022 didn’t really surface until Jan. 5 when minutes from the Fed’s Dec. 14-15 policy meeting showed it had been discussed. In an interview with Reuters a week later, Atlanta Fed Chairman Raphael Bostic said there was at least $1.5 trillion in excess liquidity to drain from the system.
Estimating the direct impact of QT on bond yields is subject to so many variables that it is almost a mad dash.
But Morgan Stanley analysts took a chance and found that “a rule of thumb (with much ado) suggests a 4 to 6 basis point change in the 10-year interest rate from a change of $100 billion balance sheet.”
Applying Morgan Stanley’s model to Bostic’s excess liquidity estimate, basic calculations suggest that a $1.5 trillion runoff could push the 10-year yield up by about 60 to 90 basis points.
Morgan Stanley has just raised its 10-year yield forecast at the end of the year to 2.30%. This would be bad news for growth stocks sensitive to higher yields, as cash flows and future earnings are discounted at higher rates. Technology, which is expected to post higher earnings than most sectors, is particularly vulnerable.
THE SNOW ARK?
Peter Garnry, head of equity strategy at Saxo Bank, shows how vulnerable he is. It examines the performance of the Nasdaq, S&P 500 and Eurostoxx 600 against the MSCI World Index based on daily movements in the 10-year US Treasury yield.
His starting point is what he sees as the turning point of the coronavirus pandemic in early November 2020, when Pfizer Inc said its COVID-19 vaccine was more than 90% effective in preventing the virus in people without previous infection.
He finds that on days when the 10-year Treasury yield rises 5 to 14 basis points, the Nasdaq underperforms global stocks by 0.6% on average, and on days when the yield falls 5 to 16 basis points On a baseline basis, the Nasdaq outperforms global stocks by 0.4%.
Treasury yields are up, with the two-year above 1% and the 10-year above 1.85% on Tuesday for the first time in two years. With inflation at a 40-year high of 7% and the Fed teasing QT, tech investors should seek shelter.
“A higher discount rate is a very strong headwind. If you’re a smart tech investor today, you need to fine-tune your investment, re-evaluate your other metrics,” he said.
Big Tech is perhaps the safest port in a stormy industry. Behemoths like Amazon.com, Google or Microsoft are sitting on mountains of cash and will be in a better position to pass on higher costs to their customers.
But smaller caps and more “disruptive” names in the tech sector have depreciated significantly. Nothing sums this up better than Cathie Wood’s legendary ARK Innovation ETF.
It’s now down more than 50% from its February peak, and down almost 40% since early November, when Fed rhetoric ran wild and Treasury yields really took off. .
Since the Nasdaq’s peak on Nov. 22, its total returns have fallen by a third. The same is true for the ARK Next Generation Internet ETF, and other technology and smaller-cap ETFs also underperformed the broader index to varying degrees.
Alex Ely, chief investment officer for US growth stocks at Macquarie Asset Management, acknowledges that tech stocks are a long game and therefore could fall further, but says growth and fundamentals are much larger than fluctuations in bond yields.
“We’re in a bull market through the end of the decade. We’re not cautiously optimistic, we’re optimistic,” he said.
Nasdaq and 10-Year Treasury Yield Movementshttps://tmsnrt.rs/3qFmslH
Total ETF returns since November 22https://tmsnrt.rs/3qD3yMg
(By Jamie McGeever Editing by Paul Simao)
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.