Nvidia Nears $6 Trillion While Treasuries Flash Warnings: Deutsche Bank Sees Unsustainable Gap

What happened

The global financial market is exhibiting a notable disconnect, as highlighted by Deutsche Bank. While technology stocks, exemplified by Nvidia nearing a $6 trillion market capitalization, and equity indices like the STOXX 600 (within about 4% of its all-time high) trade at elevated levels, bond markets signal a stressful environment. US 10-year Treasury yields hit around 5.3% last week, their highest since 2007, and 30-year yields reached approximately 5.6%, a level last seen in 2002. In Europe, the spread between French and German 10-year yields recorded its biggest weekly increase in over three decades. Deutsche Bank argues that bonds have already priced in a new macroeconomic regime of high yields, while risk assets like equities and credit have not yet priced in these consequences.

Why it matters

This divergence is crucial because it suggests that markets are pricing fundamentally different scenarios. Elevated bond yields, especially real yields (inflation-adjusted), weigh most heavily on the valuations of growth companies whose expected earnings are further out in time. The equity market's concentration in a few megacaps, such as Nvidia, which benefits from AI demand, a record buyback program, and robust revenue growth, has masked the impact of rising capital costs. However, the bank warns that this gap cannot last indefinitely. Furthermore, Saudi Aramco's warning about the difficulty of rebuilding thin oil inventories adds a risk of a supply shock that could further push inflation expectations and yields higher, catching equities unprepared.

Market impact

Interest rates and bonds: The trend is for yields to remain at elevated levels, with potential for further increases if the inflation and growth outlook proves more challenging than what equities have priced in. Persistent high yields tend to pressure longer-duration asset valuations. Dollar and FX: In a risk-off scenario, with bonds signaling stress and equities potentially adjusting, the dollar tends to strengthen as a safe haven. High-beta currencies and the euro may come under depreciation pressure. Equities: Equity markets, especially growth stocks and the megacaps supporting them, may face a repricing. If yields continue to rise or economic growth slows, higher capital costs and lower future earnings expectations could lead to declines, particularly in companies with stretched valuations. Commodities: Oil is a key variable. A new supply shock, with inventories already low, could push oil prices above $100 a barrel, raising inflation expectations and bond yields, which would be negative for equities. Brazil: Brazil, as an emerging market, tends to be sensitive to global risk-off movements. A stronger global dollar and rising Treasury yields can pressure the real and local risk assets, such as the Ibovespa and interest rate futures, due to capital outflows and increased funding costs.

What to watch

Upcoming US jobs data will be crucial, as weaker figures could reduce the odds of further Federal Reserve rate hikes, offering some relief to yields. It will also be important to monitor inflation data and any developments in the oil market that could signal a supply shock. The resilience of tech company earnings, like Nvidia's, in the face of higher capital costs, will also be a point of attention.

Scenarios

Base case: Bond yields stabilize or fall slightly, partially validating the equity rally, but volatility remains due to macroeconomic uncertainties. Megacaps continue to support indices, but with less momentum. Risk scenario: Bond yields continue to rise, forcing a significant repricing in equities, especially growth stocks. An oil supply shock exacerbates inflation and yields, leading to a sharper correction in risk markets.

Original source: ForexLive (InvestingLive). For information only, not investment advice.