A broadening equity rally
Rising UST yields and relative outperformance of US “value” stocks. The broad downtrend in US Treasury (UST) yields came to an abrupt halt in early September. The UST 10-year yield surged 44 bps from a low of 1.46% to hit 1.90% on 13 September, while the 2s10s yield curve steepened to 9.6 bps. This week’s (ending 20 September) 25 bps rate cut by the Federal Reserve, meanwhile, failed to drag UST yields lower as Fed Chair Jerome Powell continues to see “sustained expansion of economic activity” and “strong labour market conditions”. Separately in the equity market, US “value” stocks rallied 4.0% this month and outperformed “growth” stocks by 2.6%pts.
What does this mean?
Moderating trade tensions drive UST yields back to “normalcy”. To recap, the pullback in UST yields since 4Q18 came amid falling US inflation expectations and weakening domestic macro momentum. But a bigger driver for the weakening yields stemmed from uncertainties arising from the US-China trade war.
Indeed, the sharp pullbacks in UST yields in May and July have been preceded by sharp escalations in trade tensions. Hence, it should not come as a surprise that bond yields surged when trade tensions took a breather. On 5 September, US and China agreed to a 13th round of trade talks, and by 11 September, China announced tariff exemptions for 16 types of US imports. These announcements coincided with a 23 bps jump in the UST 10-year yield (since 5 September).
Outperformance of “value” over “growth” implies a broadening of US market rally. US “value” stocks have grossly underperformed “growth” stocks since second half of 2006. This trend did not show signs of abating as the disruption of traditional industries resulted in portfolio allocators cutting back on their exposure to “value” plays (such as Energy and Financials) in favour of “growth” ones. But this trade has since taken a breather and the sharp outperformance of “value” stocks in September has inevitably led to the question whether this 10-year-old bull market is coming to an end. We think not. Instead, we view the recent outperformance of “value” over “growth” as a sign that the bull market is broadening.
What should you do?
Stay engaged in equities within a barbell portfolio. We believe the combination of monetary accommodation and firm economic conditions in the US is constructive for equities. Stay invested in “growth” sectors, while protecting portfolio downside with exposures to gold and income-generating assets like bonds and dividend stocks.
Figure 1: The outperformance of “value” over “growth” stocks signifies a broadening of the US equity rally
Source: Bloomberg, DBS
Figure 2: The sharp pullback in UST 10-year yield this year came amid escalating trade tensions
Source: Bloomberg, DBS
Figure 3: Not surprisingly, an easing of trade tensions has since triggered a rebound in UST 10-year yield
Source: Bloomberg, DBS
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