Barclays: Rising Bond Yields Shift Focus to Corporate Earnings for Equity Growth

Rising bond yields and heightened market volatility are increasing the pressure on corporate earnings to justify stock valuations, according to a new analysis from Barclays strategists. The bank's analysts contend that as the support from valuation expansion wanes, profit growth must become the primary engine for future equity market gains.

A Challenging Macro Environment

Recent market volatility has been fueled by a mix of factors, including rising oil prices and uncertainty over the Federal Reserve's policy path. According to the Barclays note, the Fed has signaled a willingness to let long-end Treasury yields rise to achieve its desired level of financial tightening, which raises the bar for future interest rate hikes.

This dynamic, compounded by increasing issuance of long-duration corporate debt, has pushed real yields higher and increased volatility in the bond market. Barclays noted this combination of higher yields, elevated term premia, and growing bond supply is beginning to weigh on equities.

Earnings Must Do the 'Heavy Lifting'

With bond yields making fixed-income investments more attractive, stocks face a higher hurdle. "Earnings will need to do more of the heavy lifting going forward," the Barclays strategists wrote. This means that for stock prices to continue rising, companies must deliver robust profit growth.

So far, corporate performance has been strong. Second-quarter earnings per share (EPS) growth is reportedly running at its strongest pace in four years across both the U.S. and Europe, helping to keep major indices near their highs. However, Barclays observed a rotation away from duration-sensitive growth stocks, reinforcing the bank's preference for a Value tilt and an Overweight position on Banks.

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Tech Sector Under Pressure

The technology sector, a market leader for much of the year, has faced a significant pullback. Barclays described a "brutal momentum unwind since early June" that has heavily impacted AI and hyperscaler stocks, with the Nasdaq briefly entering correction territory.

Key takeaways on the tech sector from the note include:

• The drawdown is seen as "largely positioning driven."
• Most reporting tech companies have delivered robust earnings and raised capital expenditure forecasts.
• Despite the sell-off, Barclays cautions that "unwind risk may not yet be over for the AI/momo winners."

Still, the strategists suggest that the fundamental earnings resilience of the tech sector may ultimately help establish a floor under stock prices after the recent wave of indiscriminate selling.