MW Stocks look expensive relative to bonds as S&P 500 attempts new record high

By Christine Idzelis

The equity risk premium in the U.S. remains 'negative' in July, says Wells Fargo. Here's what that means for portfolios.

U.S. stocks are expensive relative to bonds, bolstering the attractiveness of fixed-income assets in diversified portfolios, according to Wells Fargo Investment Institute.

"The equity risk premium, a valuation metric of the excess return that investors may expect for taking higher levels of risks in equity investments over bonds, turned negative in recent years and remains negative through July 2025," said Mason Mendez, an investment strategist at Wells Fargo Investment Institute, in a note this week. "A negative equity risk premium like we see today suggests that equities are relatively expensive compared to bonds."

The S&P 500 SPX, an index of U.S. large-cap equities, was edging higher Tuesday afternoon after closing Monday at an all-time high. Meanwhile, it's "the best backdrop for earning income in bonds in two decades," with a large share of the fixed-income market offering yields of 4% or more amid "higher-for-longer policy rates," BlackRock said in a note Monday.

Investors are widely expecting the Federal Reserve will decide at its policy meeting next week to keep its benchmark interest rate at the current target range of 4.25% to 4.5%. On Tuesday, traders in the federal-funds futures market were pricing in a 95.3% probability that the Fed will hold its policy rate steady in July, and a 57.9% chance that it will lower it in September by a quarter of a percentage point.

Read: Here's what interest-rate changes may mean for bond returns as traders watch Fed

Wells Fargo had flagged to investors in February that the equity risk premium in the U.S. stock market was at multidecade lows. In its report this week, Wells Fargo noted that it used 10-year Treasury yields for the calculation of the equity risk premium.

The rate on the 10-year Treasury note BX:TMUBMUSD10Y was trading down about 5 basis points on Tuesday, at around 4.33%, according to FactSet data, at last check. The 2-year Treasury yield BX:TMUBMUSD02Y was falling about 3 basis points to around 3.82%. Bond yields and prices move in opposite directions.

The U.S. bond market was broadly rising Tuesday afternoon, while major stock indexes were mixed.

The S&P 500 was edging up 0.1%, while the Nasdaq Composite COMP fell 0.3% and the Dow Jones Industrial Average DJIA rose 0.3%, FactSet data show, at last check.

The Vanguard Total Bond Market ETF BND, an exchange-traded fund that broadly tracks the U.S. investment-grade bond market, was up 0.2% in afternoon trading Tuesday, according to FactSet data, at last check.

Wells Fargo recommends that investors favor intermediate maturities in the bond market and remain "largely exposed to investment-grade credit quality," according to its note this week.

The firm hasn't soured on the U.S. stock market, despite its negative equity risk premium.

"While we believe today's equity risk premium supports the relative attractiveness of bonds' role in portfolios, it does not have much predictive power on future equity performance, and we continue to recommend an overweight to equities," Mendez said in the firm's note

Wells Fargo Investment Institute remains "favorable" on large-cap and midcap stocks in the U.S., expecting "an improving macro environment, in conjunction with a corporate focus on cost efficiencies, to drive earnings growth and equity returns through year-end 2026," wrote Mendez.

Read: 'Big Money' turns bullish on stocks. Will that lead the S&P 500 to a 'melt up'?

-Christine Idzelis

This content was created by MarketWatch, which is operated by Dow Jones & Co. MarketWatch is published independently from Dow Jones Newswires and The Wall Street Journal.

(END) Dow Jones Newswires

July 22, 2025 15:08 ET (19:08 GMT)

Copyright (c) 2025 Dow Jones & Company, Inc.