The latest data on US inflation once again highlights what we’ve been anticipating for some time: US inflation rates aren’t dropping back to within the target range as many people hoped. In March, inflation adjusted for volatile price components remained at 3.8 percent and is now around double the 2 percent target. This is worrying and makes substantial policy rate cuts a more distant prospect. In December 2023, market participants expected to see around seven more interest rate cuts. Only two have been made so far. The financial markets are currently forecasting that policy rates will fall to 5 percent by the end of the year. The central banks’ approach of “higher for longer” looks set to continue this year, at least in the USA. Given the robust labour market and with the economy remaining stable, bringing inflation down further seems increasingly challenging. It means longer-term interest rates may also remain high.

Interest-sensitive growth stocks

That’s not good news, especially for investments whose returns are generated well into the future. This usually applies to growth stocks. As the name suggests, these are shares of companies characterized by particularly strong earnings growth. Substantial profits are often made well into the future. High or rising interest rates have a particularly adverse effect on the valuation of these companies as they reduce the present value of future profits and reduce the valuation of these firms. By contrast, value stocks are less hard hit as they traditionally offer high current profits and low growth.

The growth stock-dominated US equity market is a cause for concern

At the moment, the US equity market is dominated by growth stocks, specifically by the ‘magnificent seven’, which currently account for around 30 percent of the US stock market. These shares contributed significantly to the strong performance of the US stock market last year. This year, it’s mainly Nvidia, Meta, Amazon and Microsoft which have driven the impressive annual performance of the US leading index S&P 500 so far.

This development is concerning for two reasons. Firstly, the US stock market is now heavily dependent on a small number of shares. The magnificent seven’s market capitalization is now over 13 trillion US dollars. This figure is 11 times the market capitalization of the Swiss equity market and exceeds the total market capitalization of the equity markets of Switzerland, Italy, the UK, Japan and China combined. This concentration is worrying from a diversification perspective because a slump in the share prices of these firms would have a major impact on the entire US stock market. In addition, it’s precisely these shares that have been very badly hit by higher interest rates historically. While they’re still performing strongly, they increasingly look to have little upside potential left. That’s why we recommend taking profits from the growth stock-dominated US equity market, and investing in global value stocks instead.

Performance of asset classes

Our positioning – Swiss focus