Interest rates appear to be rising, with signs of inflation and the Federal Reserve preparing to withdraw its bond purchases.
Bond investors generally respond by turning to bonds that are shorter or less sensitive to higher rates. Equity investors may want to find the corollary of equities.
The duration of stocks is an indicator of long-term growth expectations, explains
strategist Dave Kostin. In an era of ultra-low interest rates and free money, investors have been willing to pay for growth stocks that may not generate significant cash flow until the distant future. These distant cash flows, Kostin points out, become more valuable when discounted to present value due to low interest rates.
But as rates rise, those future cash flows are worth less and investors prefer to get their money back faster, which is why shorter-lived stocks tend to do better.
Technology’s strong contribution to the S&P 500, with 40% allocated to information and communications technology companies, makes the index sensitive to real interest rate shocks, writes Goldman Sachs strategist Ryan Hammond.
Stocks have struggled when it looks like real rates will rise due to possible Fed policy changes, such as during the 2013 taper tantrum when central bankers hinted they might start slowing down buying of bonds. They have been less vulnerable when rates are up given strong economic growth.
The rise in interest rates of late, however, comes amid expectations of a policy shift and a slowing recovery that could be further weighed down by China’s economic slowdown. Indeed, long-term growth stocks have started to lag.
|Company / Memometer||Price ($)||Mkt value ($ bn)||P / E forward||Duration of equity|
|Qurate Retail / QRTEA||10.37||4||4.8||17.2|
|Beverage / TAP Molson Coors||46.69||ten||11.1||17.8|
|Kraft Heinz / KHC||$ 36.84||45||14||18.5|
|Quidel / QDEL||134.06||6||26.7||17|
|Kirby / KEX||48.19||3||24.7||19.3|
|Autodesk / ADSK||283.95||65||44.7||19|
|Avnet / AVT||37.54||4||8.2||19.4|
|Discovery / DISCA||$ 25.59||13||8.6||18.3|
|PG & E / PCG||9.65||20||8.9||7.2|
Those looking for other signs that rates may remain high may point to inflationary pressures across the economy. Shipping costs are increasing with the Baltic Dry Index at its highest level since 2005; the price of thermal coal has doubled in recent months to reach record levels; and large-scale power outages in China following restrictions Beijing imposed to reduce energy use could push energy prices even higher.
Pressure on wages is also intensifying, with the unemployment rate for master’s graduates rising from 4.1% in July to 2.7% in August and starting salaries for job seekers increased by 20%. at 30% from a year ago, according to Lisa. Shalett, chief investment officer at Morgan Stanley Wealth Management. Shalett expects to see signs of inflationary pressures from tight supply chains, labor shortages and spikes in commodity prices to appear in the third quarter earnings commentary.
Few strategists are calling for a spike in interest rates. But even a small rise could shake the markets, meaning investors should look to shorter-lived stocks.
Sector-wise, the technology has the longest life and energy, with the Russell 1000 Index median duration at 22 years, according to Goldman, whose own short-lived basket has a median duration of action of 19.4 years.
Barron scaled back these shorter-lived stocks to find nine that have fallen behind the broader market since the start of the year, are trading at a forward price-to-earnings ratio below their five-year average and who have a share duration of less than 19 years, the median of Goldman’s bucket.
The screen revealed a mix of companies, including well-known commodities like
Molson Coors Drink
(ticker: TAP) and Kraft Heinz (KHC) and media company
While technology is often synonymous with high growth – and often longer-lived stocks that might take a while to generate cash flow – a few have made the list, including the software company
(ADSK) and manufacturer of electronic components
(AVT), which could benefit from the semiconductor shortage.
(QDEL) are not household names, but the rapid diagnostic test maker will likely benefit from the pressure for more Covid-19 tests. The company has federal contracts for up to $ 711 million related to testing related to Covid-19 over the next two years. While a lot is still in the air, Raymond James analyst Andrew Cooper writes that even partial execution of contracts could raise the stock’s floor and ceiling value.
Consolidation in the semiconductor industry has created a market share battle between Avnet (AVT) and its rival
(ARW) which takes place as the industry finds itself in the midst of a major chip storage. Demand is high for Avnet, which distributes and designs components. The median rating among analysts is Hold with a price target of $ 46.13, which is more than 20% up from current levels, according to FactSet.
The company with the shortest duration of action on the list – nine years – is the California utility
(PCG). It also has one of the biggest advantages over analysts’ median price target of $ 14.35, which is about 49% up from current levels, according to FactSet.
Write to Reshma Kapadia at [email protected]