Stocks have pushed from their lows in March to all-time highs at the fasted rate in history, with tech driving the stock market to the stratosphere. The S&P 500 is sitting at its highest 12-month forward P/E valuation in over 2 decades (despite the recent pull-back) since before the dot com bubble popped. Now the question that many analysts and investors are grappling with is whether this is a bubble or a justified "new normal" of heightened valuations? Are the markets going to pop?
Justifications For The Market Surge
Valuations are unquestionably high, but does the current financial climate justify a "new normal" of elevated stock valuations?
Jerome Powell and his dovish band of Governors have set their benchmark Fed Funds rates to virtually 0% for the indefinite future, indicating that they are willing to let inflation run. It could be years before interest rates increase, meaning that analysts are able to sizably cut their discount rate (the denominator), which they use value stocks today.
With the denominator cut, and innovation-driven businesses' future earnings looking brighter than ever, stocks are more valuable today than ever before.
The pandemic has also catalyzed the prolific digitalization of economies worldwide, forcing society to rely on technology more than ever before. One could make the argument that we saw 5 years of digitalization in just 5 months.
With the world online more than ever before, the tech space was provided with a massive tailwind that has caused the parabolic returns we've seen from stocks like Zoom (ZM - Free Report) , Tesla (TSLA - Free Report) , and Nvidia (NVDA - Free Report) .
The question that we, as investment professionals, are wrestling with is whether this tailwind has created an excessive amount of optimism, specifically amongst retail investors who don't fully understand how fundamental valuations are assessed.
This past week's tech sell-off demonstrated that their institutional sellers in the market calling for a temporary top. Whether this will come to fruition remains to be seen.
Could We Be Blowing Up A Bubble?
Many analysts are concerned that the massive number of new retail investors entering the market may be pumping stocks far beyond their intrinsic value. According to Citadel's head of execution services, 25% of the pandemic-driven volatility was caused by retail investors. This is a scary amount, especially when you consider a good portion of them are trading/investing with leverage and have the mindset the 'stocks only go up.'
As I like to call, the new 'pandemic trader' has been pushing the envelope in the financial markets, with investing and trading more accessible than ever. It is apparent that pandemic traders aren't thinking about fundamental valuation when they are betting their life savings on out of the money (OTM) TSLA call options.
The bottom line is that retail investors have had more of a market pull than many would like to believe over the past few months, and their sentiment is incredibly bullish. The 'pandemic trader' has undoubtedly been behind a good part of the valuation push, and this is concerning in the short-run (though broader market participation and efficacy is a good thing for the capital markets in the long-run).
The record-low interest rates have sent yield seeking institutional investors up the risk ladder to a growing allocation of equity products to achieve their required returns.
This year could mark the largest capital raised through global IPOs in one year since the dot com bubble over 2 decades ago, if Jack Ma's FinTech powerhouse Ant Group can reach its goal of raising $30 billion in next month's share debut. Is this a signal that the capital markets are taking advantage of the overzealous market optimism?
Special Purpose Acquisition Companies (aka SPACs) have been running ramped in the market, pushing this ambiguous IPO issuance to a record $33 billion from 86 SPACs in 2020. This opaque investment vehicle is another sign of excess in the equity markets.
We are trading in both frothy and choppy waters with valuations being stretched while the VIX remains elevated. I would remain cautious with tech buys even after the recent pull-back. The market returns have pockets of rationalization with the hardest-hit industries like airlines, banks, and other cyclical sectors remaining depressed.
I remain bullish about the roaring 20s but apprehensive about the remainder of 2020.
These Stocks Are Poised to Soar Past the Pandemic
The COVID-19 outbreak has shifted consumer behavior dramatically, and a handful of high-tech companies have stepped up to keep America running. Right now, investors in these companies have a shot at serious profits. For example, Zoom jumped 108.5% in less than 4 months while most other stocks were sinking.
Our research shows that 5 cutting-edge stocks could skyrocket from the exponential increase in demand for “stay at home” technologies. This could be one of the biggest buying opportunities of this decade, especially for those who get in early.
See the 5 high-tech stocks now>>