March 27, 2023
Recent equity market resilience has been driven by lower bond yields and rotation into growth sectors. Sidelined cash and value sectors have been a source of funds with mega-cap Tech as the primary beneficiary. The rotation provides general support for the S&P 500 given its 23% weighting to mega cap Tech. The rotation out of value sectors makes fundamental sense given our view that nominal bond yields have peaked and should be moving lower over time. Our view on bond yields is based on easing inflation pressures and what looks like a double top in 10-year yields at ~4%. The rotation into Tech also makes sense based on a defined top in 10-year real yields below +175bp. Ten-year real yields are now at +125bp and sustained levels below +109bp is our signal to add Tech exposure more broadly.
The announced SIVB deposit and asset sale is creating a small relief rally in the value sectors and an opportunity to reduce exposure. The yield curve inversion that added pressure to SIVB’s deposit flow issue remains. All businesses that use a form of the carry trade are at risk and private leveraged loans seem most exposed.
Recall a ‘carry trade’ is achieved by borrowing at lower short-term rates and lending at higher long-term rates. This business becomes extremely challenging when the yield curve is inverted. Curve steepening from a Fed policy pivot is the only way to address the issue.