In case you are an Apple shareholder who questioned after final week’s stellar earnings report why the worth of your inventory holding was taking place fairly than up, the explanation given — that chip shortages will weigh on the short-term outlook — could not appear adequate. For a dealer taking a look at each short-term alternative to maneuver portfolio cash to the place the following fast buck is more likely to be, it does not take greater than that “promote on the information” headline. Longer-term buyers, although, would possibly wish to take into account a current reality concerning the firm and damaging headlines: Apple has overcome just about each short-term “promote” headline lately on its technique to being a $2-trillion-plus firm.
Trump’s commerce conflict with China? No drawback. The shock determination to cease providing iPhone unit steerage? A lot ado about nothing because the iPhone super-cycle got here alongside anyway. As for the worldwide semiconductor chip scarcity now being cited by Apple, it may be smart to needless to say Apple has an extended historical past of being fairly conservative with its outlook — formal earnings steerage nonetheless has not returned. And another factor: Tim Cook dinner was elevated to the CEO put up after Steve Jobs primarily based on his mastery of world logistics.
“Let’s face it, if Apple has any hassle getting chips, then each different firm on the planet can have 10x these issues,” stated Nick Colas, co-founder of DataTrek Research. “For those who’re actually fearful about chip provide, you wish to personal Apple as a result of it’s first in line at each chip fab.”
However there’s a larger query related to Apple and the remainder of the market: Simply how sturdy is the following leg of progress for the market going to be?
Folks go to the Apple retailer within the Oculus Mall in Manhattan on July 29, 2021 in New York Metropolis. Quite a few shops within the mall, together with the Apple retailer, have required friends to begin sporting masks once more because the Delta variant of Covid spreads by means of New York Metropolis.
Spencer Platt | Getty Photographs Information | Getty Photographs
The instant outlook for the market does not essentially scream buy-on-the-dip after the massive tech sell-on-the-news, in accordance with Colas. Seasonality is a right away danger, with market historical past exhibiting the early August interval to be a risky one for the VIX volatility index.
“It is a legitimate buying and selling query, the place to go for the buying and selling greenback in August,” Colas stated.
Quick-term buying and selling versus longer-term investing
Since 1990, the early August interval has been one into which the VIX peaks. A part of the reason being the lighter volumes available in the market throughout the summer time. “It is a trough for liquidity, when individuals are on trip … a decrease variety of folks buying and selling and extra volatility any information merchandise will carry. I’m telling purchasers to watch out,” he stated.
On Wednesday by means of Friday of final week, the S&P 500 trading volume was below its 30-day average.
For the short-term trader, a rotation away from the large-cap leaders into small-cap represented by the Russell 2000, which Colas described as being “way oversold” since its torrid hot streak in early 2021, could make sense. “Small-caps went parabolic through March and April and have not worked since because they got so far ahead,” he said.
That makes them, at least statistically, based on 100-day trailing returns, cheap right now.
But for investors not playing the market for a quick trade, Colas says the post-earnings disappointing trades from Apple, Facebook and Microsoft shouldn’t weigh too heavily. Amazon was the outlier in actually missing revenue expectations rather than posting a big beat, making a selloff on the news a “fair” reaction, according to Colas.
Big tech stocks were really bid up into Q2 reports
It’s also important to remember that the big beats from the rest of big tech were already embedded in most of the stocks as they had a strong June and July based on the market guessing right — that Q2 earnings would be stellar. “The market was bidding up the names into the quarter. The market sniffed out the surprise and they all occurred, and when you see stocks all rally into a quarterly earnings, it’s just hard to sustain that. That is ‘sell on the news’ unless there is a tremendous amount of good news and guidance,” Colas said. “That’s normal capital markets behavior.”
He goes back to one important data point in assessing the strength of these companies: they have doubled their earnings power in the past two years. “Which is astounding,” he said. And that gives him more comfort in the longer-term picture. “I don’t see any change. Big tech is still the place to be.”
He cited two reasons.
Even as these companies have doubled earnings growth, he doesn’t think they are anywhere near peak earnings. “It’s just a much higher base to build on.”
Second, these companies have definitive advantages in industries and don’t directly compete against each other in a zero-sum game i many areas of strength.
These companies have grown earnings so much because the pandemic changed consumption patterns, made us all even more tech-centric, and the market made a lot of money betting on that playing out exactly as it did. But now the big question for big tech isn’t about its dominance being threatened — though multiple antitrust battles loom — it is just figuring out how much more room they have to keep the earnings growth rate going higher.
“Tell me what you would pay for a company with a 30% return on investment and structural growth of 10% to 15%, and can do it for a decade? What is the multiple? Is it 30 times or 40 times? I have no idea,” Colas said, “but I know it’s not 20 times.”
Apple was an example from this group of concerns about price-to-earnings multiples. It lagged the rest of the tech giants for years, seen as a hardware vendor and weighed down by that market view until the services business soared through the pandemic and the $2 trillion market cap was given to the company. And again this year, it was “the one oddball laggard,” in Colas’s words, as its year-to-date return into earnings was roughly 10% versus roughly 30% for Facebook and Microsoft.
Apple trailed the S&P 500, too, ahead of the earnings. One reason: it sucked so much demand forward investors are rightly concerned posting good earnings comps will get harder. But, Colas said, that might also mean it has the most room left to go up, even in the short-term as a new iPhone launches in the fall and back-to-school boosts spending on consumer tech.
The broader global growth story the entire stock market is tied to isn’t a lock. In fact, amid the panic over inflation earlier this year and expectations that the 10-year Treasury yield would go higher, it did the opposite. “The market totally understood growth had peaked in Q1 and started trending down at the end of the quarter,” Colas said.
The rate story was wrong, but slower economic growth is now higher up on the list of investor concerns for a U.S. market where P/E ratios are high. Big tech represents 23% of S&P 500 and that means whatever the market next decides about its lofty valuations will weigh on U.S. stocks overall.
But investors don’t have that many great choices globally. With the situation in China between the government and its leading companies resulting in massive losses in recent weeks, there might be trading opportunities, but emerging markets are no place to be for anything but a trade. And even if there is potential opportunity in other international plays like European financials, it is going to take time for rates to move in a direction that benefits those stocks.
“What’s left? It’s U.S. and the top of the cap table,” Colas said. “That’s what you need to own. Still back to the same names.”
Looking at sector weightings back to the 1970s and through the 1990s, he says there has never been a time when five companies had more weighting. “It’s just 5 names, and it’s not like when Exxon was at its peak in the S&P. That was a commodity play. These companies have huge barriers to entry and very high structural returns.”
Even with those advantages, trying to figure out what their earnings power will be post-pandemic, or at least as the world transitions from the worst of the pandemic to the lingering effects, is the bigger issue for big tech.
“What is a fair growth rate for 2022? That is hard,” Colas said.
For Alphabet — the only among the big tech names to report last week which rose after its earnings — and for Facebook, which reiterated a prior warning of slowing revenue growth, there is the cyclical nature of advertising market to rely on, and that has not changed all that much in recent decades. Apple, though, is a harder one, because even as it has made progress moving past the iPhone story and building its services business into a huge driver of growth, so much hardware demand was pulled forward.
For Amazon, Colas noted that e-commerce’s share of demand when from 17% to 24% in Q2 2020, and then back down to 20%. And every percentage point in that band has huge leverage over Amazon’s business model — in fact, he pointed to it as a reason why Amazon had been “stuck in that band” for nine months before it rallied into earnings. From October 2020 to June of this year Amazon had bounced around but didn’t get bid up like the other names until the pre-earnings run. Year-to-date after its earnings fall, the stock is barely holding onto a gain, just under 3%.
What just occurred in all of these stocks was a peaking into earnings, but it’s nowhere near peak earnings for these companies, Colas said. The concept of peak earnings, which has been a concern for investors, implies there is a point in the cycle when a company shows its highest earnings growth in absolute terms. “That’s what peak earnings are about, and no big tech company is near peak earnings on an absolute basis,” Colas said. “Because they continue to grow and their amount of earnings leverage is massive.”
That is more likely to be a buy on the future after the sell on the news has worn off.