Treasury yields, predominately the 10-year Treasury note, have risen drastically since the beginning of this year as a result of rising optimism surrounding a strong economic recovery following a year of “coronavirus-induced misery”. Leading financial institutions such as Goldman Sachs are projecting historic growths in GDP in the upcoming years, forecasting 6.8% in 2021 and 4.5% in the subsequent year. Undoubtedly, it is no surprise that the global vaccine roll-out, persistent fiscal stimulus and current economic slack presents an environment that is deeply poised to grow substantially. However, such expectations for growth, with its effect on interest rates, has implications on the stock market which, in many ways, are unsettling for Wall Street.
With the 10-year U.S. Treasury bond surging to a more than one year high of 1.54% last Thursday, yield spikes could be signalling a period of increased market volatility. This would put pressure on many growth stocks that outperformed the broader index last year. Rising rates are a headwind for high multiple stocks, such as DocuSign (DOCU) and Zoom (ZM), as rising rates threaten their future earnings. More broadly, growing emphasis and focus on the economic recovery poses a risk to the tech sector at large. Investors begin to rebalance their portfolios towards more cyclical, value orientated sectors such as financials and industrials, who are indeed beneficiaries of a steeping yield curve. Such a notion is in fact currently being materialised with the latter sector up more than 4% this year alone relative to tech’s meagre 1.5%.
However, while this readjustment does most definitely warrant some concern, it is important not to over dramatise this tech “meltdown”. With the Nasdaq still up 54% over the past 52 weeks, perspective here is largely significant. A correction in many of these high-flying names which helped to both drive the stock market higher and allow the global economy to function in the prior year, is not only a sign of health, but most importantly, economic progress. Fundamentally, sectors which are levered to the reopening and more “insulated” from rising rates will have a better earnings momentum in the upcoming year. This will unfurl as the world begins to administer a new normal, relax many of its restrictions on social interaction and regain its true livelihood. That said, one must not abandon tech entirely but merely re-evaluate its exposure to this sector, in favour of one with a greater balance between the realms of both growth and value. Ultimately, the underlying theme of digitisation, which was both intensified and accelerated during the pandemic, isn’t going anywhere in the long-term and will continue to govern this new paradigm.