The stock market suffered its worst losses in nearly two years with the declines on Friday sending the S&P 500 tumbling below its 200-day moving average, a key technical support level. It marked the third straight week of losses, with the S&P down 5.7%, while the Nasdaq Composite sank 7.6%, and the Russell 2000 plunged 8.07%. An unsubstantiated report on Wednesday afternoon that fitness company Peloton Interactive (PTON) had halted production seemed to trigger the selling, wiping out $800 billion of equity value in an hour. For those who are unfamiliar, the company sells exercise equipment and subscriptions to interactive exercise classes and has annual revenue of approximately $4 billion, but has never posted positive annual net income. A year ago, the share price peaked at $171 representing a $56 billion valuation. The recent collapse in the share prices of many of the fast-growing high-fliers in the face of rising interest rates comes as no surprise. Unfortunately, as is often the case, the baby is getting thrown out with the bath water, as many fine companies (particularly small-caps) that are trading at steep discounts to our calculated intrinsic value are also under intense selling pressure. The 25% decline in the median P/E multiple over the last 12 months in the Russell 2000 provides some evidence of the expanding universe of bargains. As we have highlighted in our “Small-Cap Bootcamp” podcasts we believe that an actively managed small cap portfolio offers even greater risk/reward dynamics.
The selling pressure intensified on Friday after Netflix Inc (NFLX), the first major tech stock to report fourth quarter earnings, posted slower subscriber growth and guided for lower-than-expected revenues in the current quarter. The major losses in growth names have pushed the Nasdaq further into correction territory, down more than 14% since its November high, as rising interest rates pressure makes the lofty valuations of the mega-cap growth companies look less attractive. This weekend’s Barron’s has a revealing chart that shows the almost perfect correlation between the growth in the “FANG+” stocks share prices and the growth in the balance sheets of global central banks since 2015.
Other asset classes associated with prolonged suppressed interest rates also came under pressure. Notably, cryptocurrencies seeming lost favor, with Bitcoin declining almost 16% and Ethereum almost 23%. This sell-off is consistent with criticisms of these trading vehicles as currencies, but probably somewhat validates these assets as tools for speculators.
The yield on the Ten-Year Treasury reached a multi-year high on Wednesday but backed off to finish down 3 basis points to 1.75% by the close on Friday. We still believe that fixed income yields will rise to at least the inflation rate, as has been the historic norm.
When Will Easing End?
Earnings season is in full swing with reports from 104 S&P 500 companies, including mega caps Apple (AAPL), Microsoft (MSFT), and Tesla (TSLA). Composite earnings are forecasted to grow 23.7% year-over-year, and those strong results plus positive forward-looking commentary could provide support for the stock market. On Tuesday, the report on January Consumer Confidence is expected to show a decline of about 5% from the previous month. On Wednesday, the FOMC will announce its decision on monetary policy with the expectation that the federal-funds rate will remain near zero. Market participants will be seeking greater clarity on the plan to end quantitative easing and potential clues on the pace of interest rate hikes. Both the bond and stock market have been in retreat since the December FOMC meeting notes were released revealing a more hawkish tone. The week ends with the fourth-quarter GDP report arriving to expectations that the economy grew at a 5.8% pace despite some Omicron headwinds.
Stocks on the Move
With the Russell 2000 down over 8% last week, numerous positions in the North Star Funds were double-digit movers. If you have a specific question on a holding, please do not hesitate to reach out to your designated advisor.
Other Stocks Mentioned
Apple Inc (AAPL) is a 3.6% position in the North Star Opportunity Fund.