Tech companies have dominated the stock market for the past decade, but with stubborn inflation forcing the Federal Reserve to aggressively raise interest rates, their reign may be coming to an end. “Bear markets have historically driven leadership change,” wrote Bank of America Equity strategist Savita Subramanian in a Wednesday note, “suggesting that old economy sectors are likely the winners of this cycle.”
After years of the Fed’s zero interest rate policy (ZIRP) fueling speculative investments in tech companies capable of using cheap debt to finance rapid growth, the era of “free moneyis over, according to the bank.
Interest rates are likely to stay ‘higher for longer’, argues Subramanian, meaning investors should look to sectors that represent the ‘old economy’, including energy, materials and industrials . “The old economy was starved of capital for more than 10 years, while technology benefited from free money. With the end of ZIRP, we see the pendulum swing back to the old economy, as prolonged underinvestment led to supply issues,” she wrote.
After Tech Stocks brutal year in 2022, the sector rebounded strongly in January thanks to stronger than expected labor market data and inflation fading boosted investor confidence. But this month was a different story, with heavy tech Nasdaq down almost 5% since February 2. Even after the fall, Subramian warned on Wednesday that growth-oriented tech stocks still don’t price in the risk of a recession or rising interest rates.
As a result, sectors that represent the old economy, like commodity producers and even home builders, are trading at a “record discount” to the S&P 500 based on the equity risk premium, which is derived from subtracting the real interest rate on the 10 year cash of the price/earnings ratio of a given sector.
Still, Subramian warned that the overall stock market remains overvalued. The S&P 500 is currently trading at more than 18 times forward earnings, or 20% above the average for the past decade. And only four in 10 of Bank of America’s bull market indicator signs – which flash when a new bull market is about to begin and include things like interest rate cuts and market sentiment surveys investors – were triggered this month.
Subramanian also explained that while the latest “strong economic data” – including January’s strong retail sales and employment reports – may have delayed the timing of a recession, it also means that the Inflation could reignite, prompting further interest rate hikes from the Fed.
Bank of America’s chief US economist, Michael Gapen, said informed investors of the possibility of a recession in the United States due to the rise in interest rates since he began his work last July. And despite signs of resilience in the labor market, he doubled the forecast last week in a note to clients, calling for a “mild recession” later this year.
Against this backdrop, some investors have argued that it may be wiser to invest in US Treasuries, which now offer a real return, and avoid equities. Billionaire ‘Bond King’ Jeffrey Gundlach said Wednesday he was preparing for a recession at DoubleLine Capital, which manages about $100 billion in assets, holding less risky investments like treasury bills.
“I always say, ‘Don’t listen to what I say, watch what I do.’ And we started de-risking, if you will, in the fourth quarter of 2021,” he said. Yahoo finance.
Morgan Stanley Chief Investment Officer Mike Wilson also warned last week that stocks were in the “death zoneand he expects the S&P 500 to fall more than 20% to the 3000 low before a recovery at the end of the year.
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