NEW YORK (January 7): Investors are recalibrating their portfolios to account for a more hawkish Federal Reserve as signs that the central bank is ready to step up its fight against inflation rock markets during the first week of 2022.
Benchmark 10-year US Treasury yields are on course for their biggest weekly gain since September 2019, as technology and growth stocks fell and investors bought shares of banks, energy companies and other economically sensitive companies.
The action is largely reminiscent of how markets started 2021, when the rollout of coronavirus vaccines boosted expectations of an economic reopening in the United States. Yields fell later in the year as the recovery in economically sensitive stocks slowed and investors returned to the big tech and growth stocks that drove markets higher over the past decade.
This time around, investors need to consider a Fed that is expected to raise rates at least three times this year as it battles soaring consumer prices. This could weigh on technology and growth stocks as higher borrowing costs could erode their future earnings. The S&P 500 Value Index has gained about 1% year-to-date, while the S&P 500 Growth Index has fallen about 4%. The broader index recently fell about 1.7% for the year.
Bob Leininger, portfolio manager at Gabelli Funds, expects this trend to continue and focuses his portfolio more on financials, energy and aviation stocks such as Boeing Co in anticipation of a broad resurgence in global travel.
“The Fed is serious about ending quantitative easing,” he said. “This is the year we will start to see quantitative tightening and that will favor value stocks.”
While investors generally view a hawkish Fed with caution, stocks have nonetheless tended to rise in past rate hike cycles. The S&P 500 has risen at an average annualized rate of 9% in 12 such cycles since the 1950s and has posted positive returns in 11 of those instances, according to data from Truist Advisory Services.
Expectations that the Fed will raise interest rates at least three times in 2022 will “reduce speculation” in the market, said Lew Altfest, managing director of Altfest Personal Wealth Management.
This will likely weigh on the two heavily value-oriented sectors, such as travel and energy, which posted outsized gains in 2021, while hurting high-growth tech stocks, he said.
Altfest focuses on companies such as banks, which it believes will benefit from higher interest rates and trade at comparatively lower valuations, while maintaining positions in giant technology-focused companies.
The S&P 500 banking sector recently rose more than 7% year-to-date and trades at a price-earnings ratio of 11.5, compared to a price-earnings ratio of 26.1 for the larger index. large.
Banks “just look more rational,” Altfest said.
Investors will take a closer look at bank earnings in the coming week as several major banks, including JPMorgan and Citigroup, are expected to report quarterly results.
Some believe the heavy weighting of tech-focused stocks in the S&P 500 could slow the broader index, should these names stumble: Microsoft, Apple, Nvidia, Alphabet and Tesla accounted for almost a third of the total return of almost 29% of the S&P 500 in the last year, according to data from UBS Global Wealth Management.
Although many of the big tech stocks have been hit in recent days, the pain has been much worse among the smaller tech names that rallied at the start of the pandemic. The ARKK Innovation ETF, which was the best performing equity fund of 2020, is already down around 11% year-to-date.
Others, however, are betting that investors will inevitably return to tech stocks, which have easily outperformed other parts of the market for years.
Ross Frankenfield, managing director of Harbor Capital Advisors, has increased his allocation to larger-cap financials, but expects momentum to return to mega-cap tech stocks later in the year as it becomes clear that economic growth will stagnate in 2023.
“There are good short-term arguments for value stocks, but in the long term, we think there will be a tailwind again for mega-cap growth stocks once earnings get tougher. to get,” he said.