by Bryan Perry

July 28, 2020

The buildup to second-quarter earnings season was accompanied by some strong moves higher by the leading mega-tech stocks, where only spectacular beat-the-estimates and raise-the-guidance language could have kept the party going. However, some early season results failed to impress investors, and the overcrowded big-cap tech trade is finally letting off some steam as July begins its final week.

Last week was pretty much a case of “buying on the rumor and selling on the news.” Historically, big money often regroups in the latter part of August into early September, and then starts to bid high-quality tech stocks up for the balance of the year, with emphasis on the strong fourth quarter. This has been the historic “run for the roses” year-end pattern that has held up for most of the last 20 years (save 2018).

I suspect this time around, in 2020, it will be different – very different. Yes, there are super-secular trends in place – like 5G, the Internet of Things, cloud computing, cybersecurity, artificial intelligence, augmented reality, autonomous driving, enterprise networks, e-commerce fintech, mobile streaming and more – but there is a year-end trade in the works where the tech sector will likely be the source of funds.

The conventional wisdom is that tech will stay strong. CNBC trots out all the usual parade of analysts that reassure the viewing audience that the tech sector holds the future to our working and personal lives, as well as to the future of the performance of the stock market. Nothing has changed except that we’ve entered a period of short-term consolidation, the operating phrase being “short-term.” And while the first part of this declaration of tech’s virtue is true, I’m calling into question the second part.

First of all, the Nasdaq 100 is trading at a very lofty valuation. According The Wall Street Journal, as of July 26, the Nasdaq 100 Trust ETF (QQQ) was trading at a P/E ratio of 37. The NASDAQ 100 index is trading at just below 3.3 times the value of the S&P 500. The last time the index traded at this valuation versus the S&P 500 was on March 10, 2000 – the exact date of the peak of the NASDAQ Composite at 5,048. It did not reach those levels again for over 15 years – and the S&P 500 peaked two weeks later.

This is the most crowded trade in history, with just five stocks accounting for 40% of the Nasdaq’s total weighting and 20% of the S&P 500’s overall weighting. Unless these companies are forced to break up, it’s hard to imagine the numbers changing unless some air comes out of the big five’s balloon. They are considered “safe havens,” with defensive business models and guaranteed double-digit earnings growth.

I’m not calling for a trap-door sell-off, just a longer-than-anticipated cooling-off period that will be dramatically interrupted by massive sector rotation. I believe there is a serious groundswell in the early making, one that will cause the ground to shift under the tech sector. In fact, it may have already started with last week’s 5% pullback in the Nasdaq 100, signaling an August retreat from the highs playing out.

Nasdaq 100 Index Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

There are two developments that, in my view, could trigger a tsunami-sized sector rotation: (1) The race for a vaccine to defeat the coronavirus is starting to look like there could be one ready for mass production by year-end. And (2) there is also a rising tide of tension toward China that I don’t see dissipating anytime soon. In fact, I think it will only simmer further into the teeth of the election cycle.

The advent of a vaccine that can be delivered on a wide scale will trigger a huge buying spree into all manner of reopening stocks – hotels, restaurants, airlines, cruise ships, casinos, hair salons, fitness clubs, childcare, railroads, hospitals, medical devices, materials, and brick and mortar retail. This has the potential to be one of the great slingshot trades of the past decade as these stocks have been crushed for a second time this summer, with the majority sitting back down at or just above their March lows.

This is not an earnings-driven trade or one based on who wins the election or how low the dollar trades against the euro or whether big cap tech companies are forced to split up or how much more QE the Fed is going to stoke the corporate bond market with, via serial purchases. This is a “perception trade.”

When speaking of the stock market, most of us are quite familiar with the Wall Street maxim of “the perception is greater than the reality.” Two perceptions come to mind, from where I sit: (1) U.S./China relations will deteriorate further before they get better and (2) a vaccine is coming by Christmas.

Under these two assumptions, the overvalued and overcrowded tech sector will become a huge source of funds for buying the “reopening stocks,” which will see massive inflows as the notion of life as we knew it pre-COVID takes a firm grip on sentiment. These stocks are trading between 50% and 75% off their 52-week highs and present a similar buying opportunity when the timeline of a global vaccine becomes clear.

The Way it Was Image

The reopening stocks currently trade as if COVID-19 will be with us forever, but it won’t. I recommend crafting a short list of one or two leading blue-chip institutional favorites in each of the blown-out sectors I noted, because when the time comes to rotate into them, they’ll move big, in the blink of an eye.

All content above represents the opinion of Bryan Perry of Navellier & Associates, Inc.

Please see important disclosures below.

Also In This Issue

Global Mail by Ivan Martchev
The Federal Government is Pushing Higher Inflation

Sector Spotlight by Jason Bodner
What a Difference a Year (or More) Makes

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Read Past Issues Here

About The Author

Bryan Perry

Bryan Perry

Bryan Perry is a Senior Director with Navellier Private Client Group, advising and facilitating high net worth investors in the pursuit of their financial goals.

Bryan’s financial services career spanning the past three decades includes over 20 years of wealth management experience with Wall Street firms that include Bear Stearns, Lehman Brothers and Paine Webber, working with both retail and institutional clients. Bryan earned a B.A. in Political Science from Virginia Polytechnic Institute & State University and currently holds a Series 65 license. All content of “Income Mail” represents the opinion of Bryan Perry

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