By Hussein Sayed, Chief Market Strategist at FXTM
Following a strong recovery on Friday, Tech stocks are driving global equity indices lower on Monday as higher Treasury yields continue to drive rotation from growth to value companies.
The dollar remains the biggest winner from rising yield differentials with USD/JPY holding at a 9-month high. Brent crude shot up 2% early Monday passing the $70 threshold for the first time since the pandemic began after Yemen’s Houthi forces fired missiles on a Saudi Aramco facility.
Investors await the final vote for Biden’s $1.9 trillion pandemic relief package, although the passing of the bill seems widely priced in.
Financial markets are becoming ever more exciting. Many forces are at play and investors are trying to digest a multitude of information. Hence, we should expect volatility to remain elevated over the upcoming days and probably weeks.
There are reasons to be positive about a robust rebound in global growth prospects. The US economy added 379,000 jobs in February, well above markets expectations of 200,000.
Data released over the weekend showed China’s export growth soared to the highest levels in over two decades. Despite the figures being distorted by the low base in 2020, the sharp recovery in exports represents strong global demand. The rollout of Covid19 jabs and fall in global cases are also a source of optimism.
Given this background and the anticipated $1.9 trillion in new US stimulus, investors are growing increasingly optimistic about corporate earnings.
Many households and corporations are sitting on large piles of cash which will be deployed in the upcoming months. Hence, analysts are increasing their earnings estimates for companies in the S&P 500 by wide ranges.
According to FactSet, S&P 500 companies are projected to report a 21.5% rise in EPS for Q1 2021, almost a 5% increase from end of year estimates.
However, the S&P 500 is failing to make new highs and the Tech-heavy Nasdaq Composite has dropped nearly 10% from its record highs, briefly entering correction territory. This tells us that even if the economy is set to boom in 2021, the performance of stocks will be extremely bumpy.
The most loved stocks in 2020 are turning out to be the most hated in 2021. Tesla, Zoom Video Communications and Peloton are just a few examples. Those benefiting the most are in the financials, materials and industrial sectors.
It sounds kind of boring to invest in these sectors for new investors, but with rising interest rates, higher inflation expectations and extremely rich valuations the rotation out of growth into value may persist for several months.
Those waiting to be rescued by the Federal Reserve might be disappointed unless we see financial conditions tightening. A 30% or 50% drop in Tesla won’t force Powell’s hand. In fact, Fed officials might like to see those richly valued stocks come down a bit to prevent bubbles in equity markets. As long as this is occurring in a way that is not disruptive to the overall economy, yields may continue to be allowed to go higher without intervention.
Given this environment, expect the most crowded trades in 2020 to become the laggards this year, and the rotation which started in November 2020 to continue for longer than expected.
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