Why bond performance could lead to tech selling

What started as a slight decline in bonds in 2020 has seemingly reached lightning speed this year with the Bloomberg US Aggregate Bond Index down more than 10% in 2022 after falling 1.7% in 2021. a time when stocks and bonds are both feeling the pressure of soaring inflation and rising interest rates alongside a regime of quantitative tightening that peaked in September, these are likely the fastest growing stocks that will pay the price according to Jeff Weniger, CFA, head of equity strategy at WisdomTree in a recent blog post.

“2022 has been weird. In “normal” times, one would expect bonds to thrive in a weakening economy. But this year, that old truism was thrown out the window,” Weniger wrote.

Bonds and stocks have been highly correlated this year, and in an interesting twist, indices that are heavy in growth stock allocations appear to be moving in tandem with long-term bond yield: The Nasdaq Composite is down 23% since the start of the year, and the S&P growth index is down 21% over the same period. By comparison, the S&P Value Index is down just 7% this year.

Image source: WisdomTree blog

“The stock market results look suspicious. I think that’s a problem for very high beta stocks that tend to fill growth baskets,” according to Weniger.

The New York Federal Reserve’s Q3 Senior Loan Officer Survey found that 14% of US banks have tightened their lending standards, a phenomenon that has happened three times in the past 25 years: 2000 (the dotcom bubble ), 2007 (the financial crisis), and 2020 (the onset of COVID-19).

“Admittedly, I don’t know if drawing a comparison to the global financial crisis is warranted at this stage of the game, so take that with a grain of salt. Nonetheless, a scenario that sees S&P 500 earnings growth decline in 2023 is plausible, reasonable, and possible,” Weniger wrote.

If such a scenario were to materialize, Weniger explained that the entire yield curve could rise in line with Fed rate hikes, while equities would take a hit from depressed earnings reports.

“In other words, growth stocks are now the anti-diversification, pro-concentration asset class. As the bond market receives its proverbial margin call, there may come that moment every investor dreads: scrolling through the list of holdings to find something to sell,” Weniger wrote. “If it’s the Bloomberg Aggregate that’s giving investors headaches in the months and years to come, maybe it’s NASDAQ-style holdings hitting the sell button.”

Looking for Shelter in Dividends

“If the bond market action continues to penalize growth stocks, our dividend strategies could represent something of a safe haven,” Weniger explained.

WisdomTree offers a suite of dividend ETFs for investors seeking exposure to US equities, either as part of core allocations or with a value focus. Options include the WisdomTree US Quality Dividend Growth Fund (DGRW)which invests in large-cap U.S. companies that are increasing their dividends and applies both quality and growth filters to securities, and the WisdomTree U.S. Large Cap Dividend Fund (DLN)which invests in large capitalization companies that pay dividends in the US stock market.

The largest WisdomTree U.S. Total Dividend Fund (DTD) invests in companies of all market capitalizations that pay dividends in the US stock market, while the WisdomTree U.S. Mid Cap Dividend Fund (DON) offers exposure to mid-caps, and the WisdomTree US Small Cap Dividend Fund (DES) provides exposure to small caps.

There is also the popular WisdomTree US High Dividend Fund (DHS) which invests in high yielding US equity companies for investors seeking higher yielding opportunities.

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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