• The growth stock-heavy Nasdaq 100 index is sharply underperforming on Tuesday amid a sharp rise in long-term US rates.
  • The yield rally reflects a pumping of economic optimism that is lifting “value” and “cyclical” stocks, helping the Dow higher.
  • The net result for the S&P 500 is that it has dipped back under 4800 again.

The main news in US equities on Tuesday is rotation from growth stocks into value. The tech-heavy Nasdaq 100 index, which is seen by many as a proxy for growth, has come under heavy selling pressure on Tuesday, dropping around 2.0% from around 16.5K to the 16.15K area. The valuation of so-called growth stocks, which include many big tech names, is disproportionately dependent on expectations for future earnings growth rather than current earnings. Thus, growth stock valuations are disproportionately negatively exposed to a rise in long-term interest rates, which increases the opportunity cost of betting on future earnings growth as opposed current earnings.

And an increase in long-term interest rates is exactly what is being seen on Tuesday. US 30-year yields are up 6bps to around 2.07%, their highest level in months, while 10s are up just nuder 4bps to above 1.65% and near Q4 2021 highs. As a result, big names like Apple, which surpassed $3T in market capitilisation on Monday (the first stock to do so), is down 1.3% on Tuesday, Amazon is down 2.2%, Microsoft is down 2.4%, Alphabet is down 0.7%, Facebook is down 1.2% and Tesla is down 4.7%.

The increase in long-term yields this week which has seen US 10s rally 15bps and 30s 17bps in just two days is a reflection of a sharp increase in optimism about the outlook for the US economy in not just 2022, but the years beyond. That means stocks more exposed to the health of the economic cycle (as their valuation disproportionately depends on current earnings) have been performing well. The Dow, seen by some as a proxy for so-called “value” or “cyclical” stocks as it gives a higher weighting to financial, industrial, material and energy names, is up 0.6%.

The net result for the S&P 500 is that it is down about 0.2% and trading close to the 4780 level, having printed record intra-day highs just under 4820 earlier in the session. Mixed US economic data has largely been ignored and has not been interpreted as broadly altering the prevailing narrative that the US economy is in a state of strong growth, high inflation (though this is expected to ease in 2022) and a tight labour market. This story will receive further inputs later in the week in the form of the ISM Services PMI survey and the official December jobs report, but all arrows at this stage point towards the Fed pressing ahead tightening this year. Wednesday seen the release of the FOMC minutes, which are expected to contain a hawkish bias to reflect the hawkish policy announcement, with traders on the lookout for Quantitative tightening chatter.