Higher interest rates are an enemy of U.S. stocks, right? Goldman Sachs Group Inc. says yes, especially if yields rise quickly. For Tom Lee at Fundstrat Global Advisors LLC, the equity market also contains some less-obvious beneficiaries.
Consider companies with big pension shortfalls, which have persisted since the global financial crisis in part because low yields mean the present value of those liabilities is higher, Lee wrote in a note. Higher borrowing costs will bolster balance sheets of firms including Ford Motor Co. and General Electric Co. as their deficits narrow, he says.
Lee’s bullish take contrasts with concern that repricing in the bond market represents a major threat to stocks. For Goldman Sachs, while the current level of yields is far from dangerous, the pace of increases is worth watching.
Over the last 50 years, share prices have tended to decline when yields rise sharply over a month, according to a study published by the bank in a Friday note, which defined that as a move of about 40 basis points under current conditions. That’s roughly what we saw in the month through Feb. 1, before the selloff that sent the S&P 500 Index to its first 10 percent correction in two years.
“The speed of rising interest rates poses a more immediate risk to equities than does the level of rates,” strategists led by David Kostin wrote in the note. “The level of Treasury yields eventually also matters for equities, even if the change occurs gradually."
A yield above 4 percent on 10-year Treasuries would start eroding stock valuations regardless of how long it takes to get there, according to Goldman. The bank noted that it only expects yields to rise gradually, to 3.25 percent at the end of this year and 3.6 percent by the end of 2019. That’s up from 2.87 percent now.
Lee estimates that the present value of pension liabilities will fall by roughly 10 percent for each 100 basis-point increase in interest rates. He identified 29 S&P 500 stocks with retirement-savings deficits that amount to at least 10 percent of their market value, including Ford and GE, and also came up with a separate list of investment ideas screened for pension obligations and other criteria. The 22 companies in that group included Boeing Co. and Entergy Corp.
“We believe that the benefits of rising interests outweigh the headwinds," Lee wrote. “A somewhat less intuitive example are those companies with deficits in their pension obligations."
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