Large cap stocks, quality names to outperform if rates move higher

Morgan Stanley believes large-cap, quality equities will continue to outperform on a relative basis if rates move higher.

The investment bank explained in a note this week that the ~4.35% mark on the 10-year US Treasury yield would be an important technical level to watch for signs that rate sensitivity may increase for equities.

On Tuesday last week, the 10-year yield pushed above that level for the first time this year, and equities’ rolling correlation to bond yields dropped further into negative territory as stocks sold off.

“Small caps and low quality stocks underperformed on the day and the week, supporting our view that these areas of the market continue to exhibit greater rate sensitivity than large caps particularly in upside moves in yields,” stated the bank.

“In our view, while rate sensitivity would likely increase more broadly if we were to see a sustainable move above 4.35-4.40 on the 10-year, we would still expect large-cap, quality equities to outperform on a relative basis.”