When circumstances on Wall Street don’t line up with expectations, a lot of garbled stories emerge.
That’s what’s going on right now to explain why technology-rich portfolios are down anywhere from 5% to 35% from their peaks while the S&P 500 hits record after record. After all, technology stocks like Apple Inc. (NASDAQ:AAPL) and Microsoft Corp. (NASDAQ:MSFT) led the market through its pandemic upheavals.
They were growing at a healthy rate before the lockdowns and their expansion still beats just about everything else on the market. Some people say they got ahead of themselves, racing so far ahead of their fundamentals that they simply aren’t attractive investments at this price. I’m sympathetic but think reality is a little more complicated.
Wall Street will always pay a premium for projected growth. The faster the growth rate, the more the premium can stretch. When prices stretch too far, even a juggernaut stock stops attracting more buyers than sellers.
Remarkably, that’s not where technology stocks are. The sector, as a whole, remains compelling on a growth-adjusted basis.
It simply isn’t the only game on Wall Street anymore. Technology has some serious competition for investor attention now.
The Pandemic Wasn’t a Perfect Circle
Start with assumptions about what the pandemic did to the corporate landscape. People who talk about the “K-shaped economy” only have it right in broad terms.
Yes, technology companies don’t get sick and many actually helped facilitate life under lockdown conditions. They made a lot of money while conventional retailers, restaurants and hotels froze.
But all in all, woe in the brick-and-mortar world just wasn’t enough to drag the entire market down. Earnings across the S&P 500 are tracking close to 8% above 2019 levels this year.
That’s not a zero-sum reset after an earnings crash. And it’s no longer a question of easy year-over-year comparisons either.
These companies went on making more money than ever across the two-year cycle. As the pandemic recedes in the rear view, the only thing the market remembers is the longer-term trend of progress.
The pandemic was savage and shocking but, from a shareholder perspective, things actually look better now than they did before COVID-19 even got its name. That’s why we invest.
Tech Lost Its Crown, But Isn’t A Loser
Of course, there were winners and losers in that cycle. Restaurants and retailers needed to pivot fast just to survive, while health care and technology stocks stayed on track.
This doesn’t make restaurants and retailers a strong buy now. Many are still struggling to find their way in a world of home delivery and online convenience.
Even counting Amazon.com Inc. (NASDAQ:AMZN), consumer discretionary stocks are still tracking an 11% earnings decline from 2019. That isn’t an attractive situation at any price.
I wouldn’t buy the sector here at a lofty 39X earnings. Negative growth isn’t worth a premium. We should be getting these stocks at a deep discount.
There are good stocks here, don’t get me wrong. AMZN is rich at 57X earnings, but it’s also grown that earnings pool 140% through the pandemic cycle.
If you like traditional retail here, Home Depot Inc. (NYSE:HD) and Lowe’s Companies Inc. (NYSE:LOW) are the most attractive big names. The housing boom is good to them.
HD looks like it will end up with 26% more profit at the end of this year than it earned in 2019. The pandemic didn’t even leave a mark.
Here at a 25X multiple, that growth rate is traditionally enough to make HD a strong buy. And LOW, with 74% earnings expansion, looks even better at barely 20X earnings.
Cheaper stocks growing faster than the competition are what Wall Street really loves. The rest is just chatter.
We can do this sector by sector. Tech doesn’t look bad at a 26X multiple on 24% two-year growth. Health care is only a little less attractive with 12% in projected post-pandemic progress priced at 17X earnings.
But knowing which sectors have a reason to be hot gives us a way to identify opportunities when the hot spots cool off. Tech stocks are lagging the market now. They’ll catch up when the tide turns.
Other “hot” spots will cool off. The financials, as a group, are still no bargain at any price, with earnings tracking down 11% from pre-pandemic days thanks to the Fed’s emergency interest rate moves.
I like J.P. Morgan Chase & Co. (NYSE:JPM) here at 12X earnings and a two-year growth rate of 22%, however. Goldman Sachs Group Inc. (NYSE:GS) also has a lot going for it to merit a recommendation.
And the best sector of all right now? The materials producers. They obtained their fastest growth between 2019 and 2021 and still are valued more cheaply than the S&P 500 as a whole.
This is where the heat in the post-pandemic economy really is. Inflation is a good thing here, not a drag. We’ll be talking more about these stocks as the year goes on.
Cannabis Corner: Bad Times for the Majors
The cannabis group remains on the defensive, down another 10% this week amid news that major producer Aurora Cannabis Inc. (NYSE:ACB) is actively shrinking.
ACB shareholders were braced to see sales growth evaporate or, at worst, recede 5-10% from last year’s level. After all, the company has finally joined the Cannabis 2.0 universe with premium brands designed to defy what looks like a serious supply glut.
But there’s no real excuse for a 25% decline. People aren’t paying as much for recreational plant product as they did last year, and sellers like ACB haven’t figured out how to recover their pricing power.
Negative growth is bad news in an industry built around explosive expansion. At this rate, ACB management needs to think outside the box to get the numbers moving back in the right direction.
They’ve filed to sell another $300 million in stock to fund acquisitions. While it may provide a long-term lifeline, it’s not great for existing shareholders.
However, ACB’s challenges aren’t universal. Canopy Growth Corp. (NASDAQ:CGC), the company’s closest peer, has had a bad year too, but it also has strong corporate backing to draw on when its growth hits a wall.
And the new Tilray Corp. (NASDAQ:TLRY) has already swallowed its pride and merged with onetime rival Aphria to achieve profitable scale. At least that stock seems to be finding support now.
For us, the question of whether cannabis is hot or cold depends on the spots you’ve picked on Wall Street and your timeline. If you just bought the majors in the past month, you’ve had a bad time.
But my subscribers in IPO Edge don’t buy the majors or trade for instant gratification. We’re in small names for a holding period that can be measured in months, not minutes.
On those terms, the group as a whole has held up relatively well. My proprietary cannabis index is still up 28% so far this year, practically triple what the S&P 500 has delivered over the same period.
If you were able to hold on for that length of time, you’re probably feeling pretty good. And with key stocks like TLRY finding support now, the future doesn’t look grim.
Just don’t grab a big stock like ACB and think you’re done. Real cannabis investing is a little trickier than that, but the rewards make it all worthwhile.
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