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5 Minute Read by Reuters, NEW YORK, July 8 – Stock investors are looking for indications on the fate of one of this year’s most successful plays, the so-called reflation trade, which helped lift shares of economically sensitive companies after nearly a decade of underperformance. Earlier this year, investors flocked into shares of energy companies, banks, and other businesses that were expected to gain from a strong economic comeback, hoping that Treasury rates, which move inversely to prices, would rise. Concerns about slowing growth have sent yields plunging to their lowest level in more than four months, putting this trade on the verge of collapsing. While stock markets appear calm, with the S&P 500 holding near a record high, a rotation beneath the surface has quickened in recent weeks, as investors return to the major technology and growth stocks that have driven markets upward for most of the last decade. “If we see another decline in interest rates, if we get below that 1.3 percent threshold in any major way, that will show that growth over value has returned and it isn’t simply a head fake,” Matt Maley, chief market strategist at Miller Tabak, said. Since the 10-year Treasury yield reached a recent high in mid-May, the S&P 500 has gained 7%. A closer peek under the hood, however, reveals evidence of a shift in stock market leadership. Since mid-May, the Russell 1000 growth index has risen more than 13 percent, while the corresponding value index has up about 1.5 percent. In a letter to clients, Oliver Allen, markets economist at Capital Economics, stated, “We do not expect the reflation and rotation trades to return to their former glory,” while declining commodity prices will likely hold back materials and energy stocks. “The significant boost to rotation from growing GDP projections and recovering risk appetite may be basically over,” he said. Concerns about the coronavirus’s Delta variant’s economic impact, as well as declining commodity prices, are helping to push bond prices higher. At the same time, the Federal Reserve stunned many investors last month with a hawkish shift that hinted at two rate hikes by 2023, casting doubt on the central bank’s commitment to allowing inflation to run high for a while. One significant question for investors is whether recent indicators of rising inflation, such as the latest data on existing home prices, which showed that they rose at their quickest rate in 15 years in April, are temporary. According to minutes from the Federal Reserve’s June policy meeting, officials felt additional progress on the US economic recovery “was largely assessed as not having yet been accomplished,” but agreed they should be ready to intervene if inflation or other dangers developed. “The market assumed the Fed was comfortable with an inflation overshoot going into the last FOMC meeting, but it became clear that the magnitude of how comfortable they were with an overshoot came down considerably,” said Mike Sewell, a portfolio manager at T Rowe Price, who believes the 10-year Treasury has already reached its highest level for the year. The relative quiet in the stock market does not mean that equities investors are immune to growth concerns. BlackRock Inc, the world’s largest asset management, downgraded its position in U.S. equities to neutral in its mid-year investment outlook on Wednesday, citing concerns that corporate profit margins will shrink. Meanwhile, in the week ending July 6, a client survey from JP Morgan revealed that net bearish bets against Treasuries fell to their lowest level since late April, while bullish positions rose to their highest level since late March, implying that there may be limited room for further yield declines. “It will be fascinating to see how positioning plays out to see if there is enough of a washout to make the market cleaner and more fundamentally driven,” said Chuck Tomes, associate portfolio manager on Manulife Investment Management’s global multi-sector fixed income team. David Randall and Lewis Krauskopf in New York contributed to this report. Saqib Iqbal Ahmed contributed additional reporting from New York. Ira Iosebashvili and Matthew Lewis edited the piece./nRead More

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