US equities had been seeing a major fund inflow as global investors pared down exposures to some other regions. Image Credit: Shutterstock

So far this year, US equities have rallied, while the US 10-year government bond yield has been recovering.

Conventional wisdom would suggest caution towards the high-growth sectors in US equities because higher bond yields mean lower valuation for those growth sectors. So, are we seeing the last leap in the high-flying sectors before the eventual pullback?

Get exclusive content with Gulf News WhatsApp channel

We remain bullish on US equities on a 6-12 month horizon. However, our immediate concern is that the US equity market has run up ‘too far, too fast’, having priced in a faster pace of Fed rate cuts than what we had anticipated at the end of last year.

Overcrowded market

In recent weeks, investors have been increasing their overweight in US equities, while there has been some trimming of overweight positions in global equities. This indicates that US equities are seeing fund inflows at the expense of other major regions.

Depending on the horizon, studies show that allocations to US equities are +1-1.5 standard deviations above their medium- to long-term averages.

Investor positioning has been rising in the more defensive sectors such as consumer staples, utilities and healthcare. In our view, this warrants caution and builds the case for investors to rebalance their portfolio. This can be done by partly trimming excessive exposure to equities, particularly from our preferred US growth sectors, such as communication services and consumer discretionary, which have outperformed this year.

As a next step, investors could consider either:

  • Rotating into the more defensive healthcare sector, where we are also overweight; or
  • Adding back to US equities if the S&P500 index pulls back to key technical support levels of 4,550 and 4,400.

Still constructive

Our constructive 6-12 month view on US equities is based on the fact that the economy remains resilient, both in terms of employment and consumption. This is a good problem to have and is in stark contrast to many other major economies of the world.

A case in point is the healthy US property market. The feel-good effect from robust property prices goes to consumption, which makes its way to company earnings. Strong stock market performance follows. Recent data suggest that the US housing market is resilient.

This is evident from:

  • Mortgage applications climbing to a nearly six-month high on the back of falling mortgage rates.
  • Expansion in building permits beating expectations and extending an uptrend.
  • Smaller-than-expected decline in housing starts.

The housing market’s resilience ultimately reflects an undersupply of inventory in the US. This undersupply has put a floor under construction activity as well as house prices, which are once again rising.

On the whole, we believe US asset markets are still very much in a ‘positive feedback’ loop, and investors with a 6-12 month horizon should embrace any potential correction in the near-term as a buying opportunity.