Andrew Kelly/Reuters
- A plunge in COVID-19 cases and a faster economic reopening brings mixed signals for the stock market, according to a note from Ned Davis Research.
- Value stocks outperforming growth stocks is a likely scenario if the economy recovers quickly from the pandemic, the note said.
- “Higher interest rates could moderate broad market gains,” NDR said.
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The 72% plunge in daily COVID-19 cases over the past six weeks could lead to a swift reopening of the US economy, Ned Davis Research said in a note on Wednesday.
But a faster than expected economic reopening could represent a double-edged sword for the stock market, as rising interest rates set the stage for value stocks to outperform growth stocks following a decade of underperformance.
The relationship between growth and value stocks has been on full display this week as investors grew concerned about rising rates and inflation. Stocks within the financial and energy sectors have vastly outperformed stocks within higher growth sectors like technology and consumer discretionary as a result.
“The bottom line is that higher interest rates could moderate broad market gains, multiples should compress, and the last phase of early cycle themes could lead to value exerting much-awaited leadership over growth,” NDR said.
While the Fed is likely to continue its pace of quantitative easing for the foreseeable future, long-term rates could still climb from historically low levels. And if the correlation between stock prices and bond yields turns negative, “it would signal a shift in thinking to markets interpreting rising bond yields as an inflationary threat,” NDR explained.
A faster economic reopening should support the strong earnings recovery that analysts are expecting, but there's little room for error as valuation multiples are trading near record-levels. And historically, valuation multiples typically decline during the second year of a bull market as earnings growth outpaces stock price growth, according to NDR.
"The sharp decline in COVID cases is great for the public and the economy. How good it is for the stock market likely depends on the bond market," NDR said.
The research firm maintains a bullish outlook on US stocks for the intermediate-term.