The U.S. stock market has come under pressure despite good Q2 earnings and the continuation of strong economic numbers. The price declines are especially prevalent in tech industries while other sectors of the stock market have held up over the last week. What is the market telling us?
In simple terms, technology stocks may be going on sale.
It is clear Facebook and Twitter face unique and systemic business challenges, but the massive declines they have experienced in the last few days seem to be taking down other tech related stocks. The software industry, for example, is down nearly 5% from highs reached just 5 days ago. More specifically, Cyber Security is down nearly 6% from highs it reached on July 18th. Biotech is another example, down 6% since July 12th.
Company valuations are also a concern. Technology stocks have become expensive and those companies with strong growth fundamentals, primarily sales and earnings growth, generally trade at a premium to the market during rising markets. There’s little evidence business conditions for tech companies are contracting so the decline in price appears to be a typical correction bringing tech valuations closer to the broad market.
Other sectors of the stock market do not appear to be impacted by the tech selling, at least so far. How can we tell? For one thing, other stock market sectors have been able to avoid the selling: Materials (XLB), Industrial (XLI), Consumer Staples (XLP), Energy (XLE), Healthcare (XLV) Utilities (XLU), Financial (XLF) have all generated positive returns over the last 5 trading days. 7 out of 11 sectors delivering positive returns. These are not just defensive sectors either. The Financial Sector participation is a bonus, suggesting these financial companies have not been impacted significantly by problems in the tech space and valuations in this sector are actually quite reasonable.
Other groups have also been able to side-step the selling over the last 5 days. Transportation, Healthcare, and Consumer Staples, just to name a few.
Below is a look at the price performance over the last two months of the 11 SPDR Sectors, considered a good proxy for the entire U.S. stock market. Recent selling appears to be focused on technology related companies; However, talk of a government shutdown has the potential to aggravate the situation; it would be wise to proceed cautiously with any new investment.
(NOTE: The recently introduced eleventh “Communications Services Sector” (XLC), has an 18.5% allocation to Facebook, and 26% to Google. The largest traditional “Telecommunications” holding is Verizon, which only represents 4.8% of the sector ETF. A good example of why it is important to know the actual holdings of any mutual or exchange traded fund.)