“It’s gotten so disconnected from fundamentals it’s hard to have that real conversation”, one strategist told Bloomberg late this week, during a chat about big-cap tech in the US.
If you think back to February, before the western world was waylaid by what Donald Trump is fond of calling “a great and powerful plague”, more than a few analysts were sure tech was due for a correction.
A hodgepodge of indicators pointed to an imminent drawdown. “This really isn’t that complicated a call”, Canaccord’s Tony Dwyer and Michael Welch wrote, in late January. At the time, the weekly RSI on the S5INFT betrayed a nosebleed reading of 82. We’re not quite back there yet (bottom pane) but we’re close to overbought again.
The top pane shows that the titans have hit escape velocity, as it were.
Remember, there is a rationale for this. I’m going to recycle some language from the dozens of posts I’ve penned on the subject.
The character of the current crisis is such that it reinforced many existing trends, even as it forever altered the way we think about economic life. The post-COVID world is more conducive to e-commerce and the substitution of virtual interactions for the “real” thing. Clearly, that benefits the tech behemoths.
Investors are excited about the possibility of participating in the assumed upside in a post-COVID reality where only five (or so) companies control nearly all types of commerce and increasingly define the contours of social interaction.
When you throw in the fact that a “slow-flation” environment favors secular growth names, you end up with a recipe for exactly what we’ve seen in 2020. The figure (below) speaks for itself.
And yet, despite the myriad reasons why it makes sense to own tech assuming the trends mentioned above do, in fact, continue apace, there are plenty of market participants who are incredulous.
Those folks will be forgiven. After all, we’ve now blown past the tech bubble when it comes to the Nasdaq 100 relative to the S&P.
That’s something of a punching bag for skeptics of tech’s remarkable surge.
But we’re a long way from seeing the kinds of price action that would make this period comparable to 1999/2000, according to Kevin Muir, formerly head of equity derivatives at RBC Dominion, and better known for his exploits as “The Macro Tourist”.
“Like the current environment, there was a severe market correction with the Long Term Capital Management crisis [and] the Nasdaq, which had rallied 100% in the previous year, was quickly clipped for almost 30%”, Kevin says, before reminding you that “at the end of 1998, the dot-com bubble wasn’t finishing, but merely starting”.
“Just like during the LTCM crisis, the corona crisis saw the Nasdaq decline around 30%. And yes, just like the LTCM crisis, we have rallied hard off the lows”, Kevin went on to say last week.
With that, he rather dryly notes that “if we are to repeat the dot-com bubble experience, we would need the Nasdaq to rally from the current level to 13,675 in the coming couple of months”. After that, it would need to rise to more than 30,000 over the next year.
His message: Let’s not get ahead of ourselves with the comparisons.
Still, the disconnect between big-cap tech and its 200-day average is fodder for bubble calls. On that score too, we’re back to the pre-pandemic nosebleed highs.
“There have been clear winners and losers during this crisis, and this is particularly stark when we compare the performance of the FAANGS versus the rest of the US and (say) Amazon versus the rest in the Retail sector”, SocGen’s Andrew Lapthorne wrote this week. “Globally, retail is up 12% YTD but if Amazon is excluded it’s down”.
At the end of the day, it’s important to remember that for all the naysaying, the companies leading the rally generate a lot of revenue.
Although it’s fair to charge that the current setup is akin to a decidedly unhealthy “perpetual motion machine” that drives the winners inexorably higher, leading to greater and greater market concentration, there is a fundamental reason why the five companies that dominate wield so much power.
Put differently: It’s not just the narrative. And it’s not just assumptions about what the future looks like for smart phones and e-commerce either. Rather, FAAMG is where the top- and bottom-line growth is.
Ultimately, there will be another correction, of course. There always is. And skeptics like the strategist cited here at the outset will point to the selloff and say “I told you so”.
After that, there will be a rally. And the faithful will claim they bought the dip, whether they did or didn’t.
As for valuations in tech, Muir (who is by no means an unbridled optimist right now) cautions that “valuation is not a catalyst”. “As stupid as things may seem, they can always get stupider”, he said.
Writing Wednesday, SocGen’s Lapthorne noted that in June, while the MSCI World ex-US was up 3.6% in USD terms and the MSCI USA gained 2.1%, “if you exclude the FAANGs, the US index was almost flat”.
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In addition to the points you have made here, one other challenge question to the skeptics… Why does QQQ have to “crash” from this level?
Sure, it’s stretched. But what’s so unnatural or unusual about a 10-12% decline that kisses the 200 DMA and consolidates before going back up.
Such an “event” would be a nothing move. One of those happens-all-the-time things.
Why must everything be either a melt-up or a crash when commenting on equities?
Walt, thanks again for the good content. Happy 4th.
Europe has covid under control ( relative to USA).
Europe is entering into trade deals with China and relations are good.
Why wouldn’t investment money move from US equity markets to Europe/China?