Market comment 2022

[admin]

Growth stocks have outperformed value equities recently as investors begin to question if the Federal Reserve has passed peak hawkishness already with its plans to raise rates to combat high inflation. Recent bets on fed-funds futures have pointed toward a potential pivot back to rate cuts at some point next year, while 10-year yields on U.S. government debt have fallen below 3%. Corporate bond spreads have widened as recession worries bubble up. But the decline in Treasury yields appears to be giving a lift to technology and other growth stocks over value-oriented equities. “While it’s too early to declare the value outperformance ‘over,’ we do think the outperformance of tech recently is notable, because if it continues that will be a strong signal that the market is now looking past future rates hikes towards eventual rate cuts in 2023,” said Tom Essaye, founder of Sevens Report Research, in a note Wednesday. “If tech can mount sustained outperformance, that will tell us the market thinks the Fed has passed ‘peak hawkishness.’”

Why a rally in growth stocks could signal ‘peak' Fed hawkishness has passed

It isn’t a market for everyone, he admits. “If you’re a short-term investor, it may be best to stay away from all this volatility. However, if your time frame is over a year, good companies with strong fundamentals are out there making this is an attractive market,” said Wang in our call of the day. Some may already be taking that advice, as the Nasdaq Composite COMP, +2.28% is up 4% for the week thus far, beating other indexes, though still down 25% year to date. Tech has been hit hard this year by investors taking another look at valuations in light of rate increases, noted Wang. “As we wade through this uncertainty, I do think we’ll see more software companies get acquired, like Zendesk just recently. There’s a lot of dry powder in PE [private equity] right now, so this is the time when investors are looking for alternatives and reassessing their strategies,” said Wang. “If the public markets don’t value these companies properly, then we’ll see a rush of M&A. Strong companies with recurring, subscription based revenue models and strong fundamentals have significantly derated, giving investors with a long-term time horizon an opportunity,” he added. As for where markets are headed, he thinks a lot of recession concerns are priced in. He notes big institutional investors are getting more defensive and running high cash levels, hedge funds with the “lowest net exposures since the GFC,” and individual investors increasingly aware of macro shifts.

Short-term investors might want to sit out the volatility. But here's what longer-term investors should do, says ex-SAC analyst

However, if the current price shock does prove to be short-lived, debt sustainability should not be endangered. After years of declining interest rates, governments have a hugely favourable starting point. The effective interest rate on Italy’s public debt declined to 2.4% in 2021 from 3.7% in 2010 (and to 1.8% from 3.2% in Spain). Given the weighted average maturity of the debt stock of around 7 years for Italy, Spain and Portugal and the expected fiscal deficits, gross financing needs are typically between 10-20% of the debt stock (Chart 3). This means that only a small share of the debt has to be (re)financed at the current higher rates, which are in any case roughly equivalent to the prevailing effective rate on government debt. Even if interest rates continue to increase, the transmission to the overall debt servicing costs will be very gradual, limiting risks for debt sustainability.

Another Eurozone sovereign debt crisis is still a long way off