Declining rates enhancing US stocks allure vs corporate bonds
Dow, S&P 500 down slightly; Nasdaq flat
Energy leads S&P 500 sector decliners; utilities leads gainers
STOXX 600 down ~1%
Dollar, oil prices, bitcoin down; gold up
U.S. 10-yr Treasury yield down to ~3.78%
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DECLINING RATES ENHANCING US STOCKS ALLURE VS CORPORATE BONDS
Falling U.S. Treasury yields are helping to enhance the attractiveness of stocks relative to corporate bonds, according to Ned Davis research chief U.S. equity strategist Ed Clissold and research analyst London Stockton.
There is no doubt that this year's rally in stocks has pushed the price-to-earnings (PE) ratio to levels last seen in the dotcom bubble and the recent global pandemic. The S&P 500 has gained more than 18% from January to August, the best first eight months of the year since 2021 and the second best this century, according to NDR.
For instance, the S&P 500 forward P/E ratio of 21.6 ranks in the top 9% of all monthly readings since 1983, the NDR analysts say. They add that the only times it was higher were during the dotcom bubble in 1998-2001 and after the pandemic shutdowns in 2020-2021.
In contrast, the benchmark Treasury 10-year yield has fallen about 7.3 bps so far this year. It reached as high as 4.7% in April, but never hit past its 2023 peak of just above 5%. This has helped stocks, NDR says, as lower yields meant bond prices are higher.
"While falling bond yields would be a bullish sign that inflationary pressures were cooling, rising bond yields would indicate the Fed's job was not done."
It notes that the deflationary fears of the 2000s and 2010s had been replaced by worries that persistent inflation would force the Fed to keep interest rates higher for longer.
NDR writes that based on forward operating earnings, stocks had gone from cheap to fairly valued earlier this year, but in the past few weeks returned to the "attractively valued zone." Based on trailing GAAP (Generally Accepted Accounting Principles) earnings, the S&P 500 remains undervalued versus corporate bonds as measured by Moody's Baa corporaten bond yield.
That said, stocks are not nearly as attractively valued against the short end of the curve, with the S&P 500 GAAP earnings yield being 1.6% lower than yields on Treasury bills, near its most expensive spread since December 2000, according to NDR.
"In order for stocks to be attractive versus other asset classes, not only do long-term bond yields need to remain low, but the Fed needs to follow through on its telegraphing of multiple rate cuts before year-end," the research firm writes.
(Gertrude Chavez-Dreyfuss)
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