US stock market’s powerhouses tested by soaring bond yields on Wall Street
US stock market's powerhouses tested by soaring bond yields on Wall Street
Surging Bond Yields Rattle US Stocks, Putting Tech Giants at Risk
Investors, brace yourselves – surging bond yields are causing quite a stir in the world of U.S. stocks. However, the concern extends beyond the broader market. Some investors are growing apprehensive about the fate of the richly valued shares of giant technology and growth companies, fearing that they may be another weak spot.
The Magnificent Seven
Seven megacap stocks have been leading the charge in the market this year. These include Apple, Microsoft, Alphabet, Amazon, Nvidia, Tesla, and Meta Platforms. Together, their stocks have accounted for more than 80% of the S&P 500’s total return for 2023. Investors have viewed these companies as major beneficiaries of advances in artificial intelligence, and earlier this year, their solid balance sheets and business models attracted those seeking a safe haven amidst regional banking turmoil.
However, the steadily rising stock prices have swelled valuations, raising concerns about their vulnerability to climbing bond yields. The so-called Magnificent Seven stocks currently trade at an average price-to-earnings ratio of 31.8 based on earnings estimates for the next 12 months, far surpassing the S&P 500’s ratio of 18.1.
With a collective weighting of 27% in the S&P 500, weakness in these megacaps could further deflate the broader index, which is already down 6.6% from its July highs. Despite this, the S&P 500 is still up over 11% year-to-date. The market’s interdependencies come into play here, as Matt Maley, chief market strategist at Miller Tabak, explains, “When the big tech stocks start going down…the indexes go down. Then people get nervous and sell their mutual funds or their ETFs, and…the whole thing snowballs.”
A Crack in the Armor
The recent stock selloff has already taken a toll on some megacap stocks. For instance, Apple, the largest company by market value, has experienced a 13% decline since late July, and high-flying Nvidia fell nearly 12% in September. Nevertheless, Apple still boasts a 32% increase for the year, with Nvidia up nearly 200%.
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Pressure from Bond Yields
The rising yields on Treasuries, considered risk-free and sensitive to rate expectations, present more competition for stocks as they also increase borrowing costs for corporations and households. The yield on the U.S. benchmark 10-year Treasury is currently near its highest level in about 16 years. Concerns over the Federal Reserve leaving rates around current levels for longer than expected have played a role in this development.
Tech and growth companies, which often have significant expected profit growth in the years ahead, tend to be hit hard when yields rise. This is due to the harsher discounting of their future projected earnings. According to Matt Stucky, senior portfolio manager at Northwestern Mutual Wealth Management Co., “Because (the megacaps) are more highly valued, that just means that they are going to be more sensitive to changes in real interest rates.”
Investors are expressing their concern through options markets, where thirty-day implied volatility for the Nasdaq-100-tracking Invesco QQQ ETF recently climbed to its highest level since mid-April. While the rise in implied volatility for tech stocks is not disproportionate to that of the broader market, the complacency surrounding tech stocks leaves them vulnerable to increased volatility if market declines accelerate from here, warns Chris Murphy, co-head of derivative strategy at Susquehanna Financial Group.
Weathering the Storm
While some megacap stocks have suffered during the latest slide in the S&P 500, Alphabet has managed to hold up relatively well, with only a slight decline since late July. The Nasdaq 100, representing a broader swath of big tech and growth stocks, has fallen roughly in line with the S&P 500 since late July, while still boasting a 35% increase for the year. It is currently down 7% from its highs.
Other Risks Looming
Aside from the pressure from bond yields, megacap stocks face additional risks. A recent U.S. antitrust lawsuit filed against Amazon has sparked concern among investors in the megacap space. Furthermore, while optimism regarding increased use of artificial intelligence (AI) has bolstered tech stocks this year, doubts remain about the ultimate boost to profits. According to J. Bryant Evans, portfolio manager at Cozad Asset Management, “The whole promise of AI hasn’t… reached fruition yet.”
As bond yields continue to unsettle the market, the fate of tech giants hangs in the balance. Investors will closely monitor developments in the weeks to come, as the performance of these megacap stocks will undoubtedly have a significant impact on the broader market.
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