Interest Rate Expectations
May 10, 2023
Misplaced duration positioning on the part of a few specific Regional Banks set off a mini crisis in the first quarter causing markets to convulse, bringing back fears of another GFC. While this incident appears to be isolated and contained it does highlight the unanticipated consequences of the rapid rise in interest rates. This, combined with an exaggerated expectation for promptly lower rates, has only served to further exacerbate the concentration in a limited cohort of Mega Cap Technology companies as investment flows seek both the perceived safety of their business models and long duration of their assets. The 10 largest companies in the S&P 500 now make up 30% of total market cap, coming very close to the all-time high of 32% set in 2020*. The result has been an extremely bifurcated return environment where a handful of equities are accounting for the vast majority of the return year-to-date. Apple, Microsoft, Nvidia, Meta, Alphabet, Amazon, and Tesla account for roughly 80% of the S&P 500’s growth on a point basis this year*. Our expectation is for higher rates for longer as central banks continue to fight persistent inflation and an economy that will weaken in the second half of the year. Tech has shown that it is not immune to the effects of an economic drawdown and with multiples priced for perfection will likely be re-rated downward in the coming months. Shares of companies that show consistent levels of free cash flow generation based on current (not future) assets at modest valuations will likely be those that protect investor capital in the coming markets.
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* Source: Hudson Edge Investment Partners, Credit Suisse