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Investor Spotlight: banks buckle, energy fades, tech returns

Investors sell energy and bank stocks and rotate into tech stocks; we take a look at the charts of Chevron, JP Morgan and Microsoft.

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Amidst growing financial and economic uncertainty, investors have dumped stocks sensitive to economic growth but rotated into high-quality tech stocks. In this week’s Investor Spotlight, we take a look at what’s driving the outlook for US fundamentals, and home in on one stock from each of the financial, energy, and tech sectors.

Growth concerns loom as US banks buckle

While fears of a total financial crisis have diminished, there remains heightened concern about what impact stress in the US banking system will have on future economic activity.

Some risk of financial contagion has persisted, given recent speculation about the health of institutions like Deutsche Bank. But financial crisis or not, it’s now considered all but certain that the problems within the banking system will lead to a material decrease in credit growth.

Source: CEIC

Following several years of strong growth during the pandemic and given the rising interest rate environment, most analysts had expected credit growth to slow going forward. However, the cracks in the banking system have compounded the issue, with financial institutions expected to hoard capital to protect their balance sheets.

On top of this, the probable hit to confidence from this event is likely to lead consumers and businesses to borrow less, as confidence deteriorates. This means an even more significant hit to economic growth and on top of that bank profits, which are tied to economic activity and credit creation.

Further rate hikes get priced out, cuts get priced in

As we discussed last week, the ructions in the global banking system have led traders to bet on a lower peak in US interest rates, followed by aggressive rate cuts in the medium term. The outlook was somewhat reaffirmed by the FOMC last week. It hiked rates by 25 basis points and stated that “ongoing rate increases" will unlikely be "appropriate to quell inflation” as the issues in the banking system lead to “tighter credit conditions”.

However, Powell stopped short of confirming rate cuts, stating the Fed doesn’t “see rate cuts this year”.

Despite pricing out rate hikes at the margins, Eurodollar futures continue to point to cuts by the end of this year from the Fed. Those bets on rate cuts in 2023, along with the major deterioration in economic activity underpinning that assumption, have led to a significant drop in yields.

It has also led to a partial reversal in the US Treasury yield curve inversion, with the all-important US 10-year yield dropping from above four percent, to below three and a half percent. This has sparked a significant shift in asset allocation amongst investors, as money moves into stocks that benefit from lower interest rates.

Source: World Government Bonds

"Duration” outperforms as the short-term growth outlook deteriorates

A vital concept to understand in investing is that of “duration” – or in this instance, “equity duration”. S&P Global defines equity duration as “the sensitivity of equity prices to interest rate changes”. Interest rate sensitivity increases the further out in time one goes. That means, the greater the profits expected to be generated by companies out into the future, the more sensitive those companies are to fluctuations in interest rates.

In the United States, the best example of stocks sensitive to duration is “growth” stocks, which are very often found in the US tech sector. As interest rate expectations have diminished in recent weeks and long-term yields have fallen, these stocks have generally outperformed, as the relative value of future profits has improved.

However, investors have remained selective in the type of duration stocks that they own. Rather than companies with purely “growth” attributes, investors are seeking out “quality” and even “defensive” characteristics too. That is companies with high cash levels, low debt, relatively stable earnings, and dominant market share.

Many of the companies included in the US FANG+ Index fall into this category, with the index surging more than 30 percent in the first quarter of 2023.

US FANG+ Index weekly chart

Source: IG

In contrast, cyclical stocks, which benefit from stronger economic conditions and generate profits in the short term, have fallen. The ASX 200, which is dominated by these sorts of companies, has declined even as Wall Street has managed to rally despite the issues in global banks.

Three stocks to watch this week

We take a look at three US stocks from three different sectors of the market: the financial sector, energy sector, and information technology sector.

  • Chevron Corp

Chevron Corp is the Dow Jones Industrial Average's biggest energy play and is currently experiencing increased selling of its shares. Investors are increasingly concerned about the outlook for energy demand following the recent bank crisis, with hopes for a swifter Chinese economic rebound also fading.

Chevron stock remains in an uptrend, however, price momentum is skewed to the downside. Trend line support can be found around $140, while the 200-week moving average at $120 would be a major level to watch if the uptrend breaks down. Sellers have tended to emerge above $180.00 per share.

Chevron weekly chart

Source: IG
  • JP Morgan

In the longer run, JP Morgan could benefit from less competition in the banking sector following the distress and crisis of confidence in US regional banks. In the short term however, the prospect of weaker credit growth, along with a highly unfavourable term structure in interest rate markets (banks borrow in the short term and lend out for the front term, meaning an inverted yield curve is bad for profits) is weighing on the bank's stock.

Currently, JP Morgan shares are finding support at a confluence of levels around $125. Sellers continue to emerge around $145 per share, while buyers have tended to emerge around $100.

JP Morgan weekly chart

Source: IG
  • Microsoft

Although it remains well off its highs, Microsoft shares have lifted this year and have arguably benefited from the shift in growth expectations. As a quality, growth stock, which is sensitive to "duration", the collapse in yields has acted as a tailwind to Microsoft's share price.

Microsoft’s share price has broken out of a downward trend channel and has now pushed to the 100-week moving average at $276 per share. The next key level appears to be just above $290, while support is just below $250.

Microsoft weekly chart

Source: IG

This information has been prepared by IG, a trading name of IG Australia Pty Ltd. In addition to the disclaimer below, the material on this page does not contain a record of our trading prices, or an offer of, or solicitation for, a transaction in any financial instrument. IG accepts no responsibility for any use that may be made of these comments and for any consequences that result. No representation or warranty is given as to the accuracy or completeness of this information. Consequently any person acting on it does so entirely at their own risk. Any research provided does not have regard to the specific investment objectives, financial situation and needs of any specific person who may receive it. It has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such is considered to be a marketing communication. Although we are not specifically constrained from dealing ahead of our recommendations we do not seek to take advantage of them before they are provided to our clients.

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