How a debt-ceiling deal could reverse the flight to big tech stocks like Amazon


NEW YORK (Reuters) – A potential deal to raise the U.S. debt ceiling could encourage money managers to buy stocks in the massive technology and growth stocks that have been havens this year, moving into the rest of the market, some investors believe.

Strong balance sheets and predictable cash flows have made megacap stocks like Google parent Alphabet, Microsoft Corp and attractive places to hide over the past few months as investors worry about everything from the debt ceiling to a U.S. banking crisis .

That has boosted its share price and led market indexes, while leaving other stocks behind.

Megacap tech stocks command heavy weights in major indexes. Their rally was responsible for all of the 8.3% gain so far in the S&P 500 through Wednesday’s close, a Deutsche Bank report showed. Without them, the index would otherwise drop 0.5% for the year, according to the research. By Thursday’s close, the index was up 9.3%.

Should a deal on the debt ceiling be reached, “the pattern we’ve seen in recent months will reverse,” said Michael O’Rourke, chief market strategist at Jones Trading, which is more bullish on balanced S&P 500 exchange-traded funds then the market-cap-weighted index.

“The market as a whole appreciates a lot more risk than those mega-cap names, and going forward a resolution could mean the market expands and that group outperforms,” ​​he added.

Investors are watching Washington for signs that the White House will reach an agreement with congressional Republicans to raise the U.S. borrowing limit before the so-called X-date of June 1, which the Treasury Department has said is the day the federal government will run out of money to pay its bills. President Joe Biden and the top Republican in the US Congress Kevin McCarthy both expressed confidence on Wednesday that a deal would be reached, to avoid fallout that was sure to roil the financial markets.

Spreads on U.S. government one-year credit default swaps β€” market-based measures of the risk of a default β€” have narrowed in recent days amid signs of progress on debt ceiling talks, standing at 154 basis points on Thursday, about 20 basis points below the levels from last week, according to data from S&P Global Market Intelligence.

A recent survey of global fund managers by BofA Global Research revealed that 71% believe a deal to raise the debt ceiling will be reached before the X date.

Randy Frederick, Managing Director of Trading and Derivatives at the Schwab Center for Financial Research, believes a deal would encourage investors to return to shorter-dated US Treasury maturities, which some have avoided due to debt ceiling concerns. A deal could also boost shares of companies in sectors that benefit from continued strength in the U.S. economy, such as consumer discretionary, Frederick said.

“Huge mega-cap companies that have huge balance sheets have been a nice place to hide,” he said. “We expect to see some movement back in Treasuries as you get a nice yield, and some other parts of the stock market that are lagging.”

Of course, investors are unlikely to abandon tech stocks entirely, after a decade in which the category has led markets higher. Excitement over artificial intelligence, which has boosted some megacap names this year, is another factor that could support the category.

Many would also see a broadening of the stock rally as an encouraging sign of the market’s overall health.

“For the market to send a stronger signal supporting direction, we will need to see … improved breadth/participation,” John Lynch, chief investment officer at Comerica Wealth Management, wrote earlier this week.

At the same time, the debt ceiling is only one of several concerns weighing on the market. Worries that the Federal Reserve’s aggressive monetary policy could reduce economic growth, and worries about the recent tumult in the banking sector are likely to remain even if a default is avoided.

Paul Christopher, head of global market strategy at Wells Fargo Investment Institute, expects lawmakers to reach an agreement to extend the debt ceiling through September.

Among the sectors where he is good is health care, a part of the market that is seen as a haven in troubled economic times.

“It’s been a very volatile market,” he said. “We think investors will quickly see this and try to find areas that will generate income when growth slows down.”

(Reporting by David Randall; Additional reporting by Davide Barbuscia; Editing by Ira Iosebashvili and David Gregorio)

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