Wall Street is facing a choppy start for Thursday, with commodity prices once again sky high as an intensifying battle in Ukraine hits its eighth day.
"As long as the Russia-Ukraine crisis continues, we will maintain the view that another round of selling could be possible at any time," said JFD Group's head of research Charalambos Pissouros, who said Wednesday's rally for Wall Street, driven in part by comments from Fed Chair Jerome Powell, was a mere "adjustment bounce."
The mantra from Wall Street and elsewhere has been that despite the grim here and now of this conflict, history tells us that stocks eventually rebound. Pressing that point home, Citigroup strategists pointed out to clients in a note Thursday that, thus far, the pressure has been largely on stocks with direct Russian exposure and select financials.
"We still want to buy the dips, and highlight that global equities have ended 10% to 20% higher after previous geopolitical crisis," said a team led by Robert Buckland, chief equity strategist.
That brings us to our call of the day, also from Citi, who in the same note lifted U.S. equities and the global information-technology sector back to overweight. "Both are growth trades that should benefit, in relative terms at least, from the recent sharp drop in real yields," said the strategists.
They point out how the outbreak of the Russia-Ukraine conflict has moved rates markets to price in more dovish monetary policy, with bond yields and real yields dropping, despite higher inflation expectations. "Having started the year at -1.10% and risen to -0.42%, U.S. 10-year TIPS yields fell back to -0.95%," said Citi.
What that sharp drop in nominal yields has done is pressure financials, as profitability from that sector needs higher rates. But equity markets haven't moved as fast to price in falling real yields, Buckland and the team said.
"We have frequently highlighted that these have been a big driver of the global value/growth trade in recent years. However, this latest drop in 10-year TIPs has yet to drive a similarly sharp reversal in the value rotation trade that has dominated global equity markets [year-to-date]," with other growth trades lagging.
Highlighting a "close relationship" between real yields and growth stock valuations, they noted that 83% of the MSCI U.S. 12-month forward price/earnings ratio can be explained by the level of U.S. 10-year real yields. Those are implying that U.S. markets should trade on 12-month forward P/E ratio of 21.5 times, versus the current 19.7 times.
"We had previously been expecting real yields to hit -0.25%, which would have implied the S&P trading at 20 times," said the Citi team. Meanwhile, the MSCI All Country World IT sector is trading on a P/E ratio of 22.7 times, well below the 24.8 times implied by current 10-year TIPS yields.
"While we don't' want to be too slavish to this relationship, the latest plunge in real yields does imply that this year's derating of growth stocks should stop," said the Citi team.