Citi downgrades U.S. stocks, saying higher rates will pressure tech shares

Published Wed, Aug 4 20217:23 AM EDTUpdated Wed, Aug 4 20219:18 AM EDT

Citigroup's global strategy team believes rates will rebound going into 2022, pressuring equity valuations and growth stocks. The bank on Wednesday downgraded the U.S. stock market to neutral because of the region's dependence on Big Tech stocks that could be under pressure. Citi expects the yield on the benchmark 10-year U.S. Treasury note to climb toward 2% into the next year. The rate was last at 1.18% amid a retreat in yields since March and fell back near a five-month low on Monday. (Yields move inversely to bond prices.) Rising rates discount the value of future earnings and therefore can hit growth stocks like technology names particularly hard. "It is no surprise to us that the recent bond market rally also saw strong outperformance from IT," Citi chief global equity strategist Robert Buckland wrote in the note. "Some of that could reverse if real yields were to rise back up gain. For example, the historical relationship would suggest that an increase in US 10-year real yields to -0.5% might mean 5-10% underperformance from the global IT sector." And a "heavy growth stock weighting" leaves U.S. particularly vulnerable, Citi reasons. As yields fell, the Technology Select SPDR — which is made up of the tech shares in the S & P 500 — rose 12% in the past three months. Citi attributes the recent downward movement in bond yields to technical factors and believes it will reverse. "US treasury issuance has dropped over the summer, but will rise again later in the year," the note said. "Global economic recovery and likely monetary tightening should push yields back up." Citi cut its recommendation on global IT shares to neutral, but the firm remains bullish on financials and materials. "A reversal of the recent drop in nominal yields should be very helpful for the global Financial sector," the report stated. "The historical relationship suggests a move to a US nominal yield of 2.0% could lead to around 10-15% outperformance." Among global equity markets, Citi upgraded Japan to overweight, citing low valuations and sensitivity to the global economic comeback. Citi also remains overweight the U.K. —CNBC's Michael Bloom contributed reporting.

A trader works ahead of the closing bell on the floor of the New York Stock Exchange (NYSE) on April 12, 2019 in New York City.

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