J.P. Morgan: Stabilization of bond yields may end valuation compression, combined with accelerating earnings, stocks are expected to rise through year-end.

J.P. Morgan strategist Mislav Matejka said that if global bond yields can stabilize, it may end the compression of equity valuations and help the stock market extend its recovery through year-end. J.P. Morgan believes that the recent surge in the 10-year U.S. Treasury yield has gone too farthe yield broke above 5% in late September for the first time in two decades, peaking at about 5.3%. The bank noted that changes in federal funds futures can explain almost all of the rise in the 10-year yield this year; as the repricing of short-end rates is largely complete, most of the upward pressure on long-end rates may ease accordingly. The surge in yields has taken a heavy toll on equity valuations. Matejka wrote in a recent report that during the most severe phase of the selloff, the 12-month forward price-to-earnings ratios of both the S&P 500 and the MSCI All-Country World Index compressed by about 3 points. The S&P 500's forward P/E is currently 19.1 times, down from 21.7 times at the start of the year. If yields stabilize, this valuation compression may not need to continue. Early results from third-quarter earnings are providing additional support. Among companies that have already reported, 78% of U.S. companies and 60% of European companies beat consensus EPS expectations. Globally, the share of companies with accelerating earnings growth is near a historical high, raising the possibility that the market's upcycle will be more sustained. Lower yields would also ease the pressure on financing for AI capital expenditure and on consumer balance sheets, allowing market participation to broaden out from mega-cap tech stocks (MAGS). The bank argues that if both bond yields and corporate earnings play out as expected, equities should be able to perform through year-end.