A man walks a dog in the shade away from the midday sun past the New York Stock Exchange (NYSE) building in Manhattan, during hot weather in New York City, New York, U.S., August 11, 2020.
Mike Segar | Reuters
When stock buying starts to get giddy, at some point, the froth has to blow off.
Stock strategists say that’s what appeared to happen Thursday, with no one catalyst driving the selling. Stocks fell hard in rapid fashion with tech and momentum hit harder than other areas of the market. The Nasdaq led the losses, falling 5% in an avalanche of tech selling, while the S&P 500 was down about 3.5%.
“Let’s face it. These stocks are very stretched to the upside. It doesn’t take much,” said Steve Massocca, managing director at Wedbush. “You pull up any of the charts and they’re straight up to the moon. It’s obvious they’re susceptible to selling for selling’s sake. I couldn’t find a story specific to growth or tech that drove this, but if you just consider these names, they’re overbought. It doesn’t take much. The wind direction just has to change.”
Massocca said the market selling could easily be blamed on computerized and algorithmic trading, since it was so sweeping. There was some market talk that it was connected to the election, but analysts said it did not appear related though President Donald Trump’s gain in polls early in the week had been seen as a positive for stocks.
Tesla fell more than 9%, giving up some of the gains it made ahead of its recent stock split. Apple also split this week, and it lost 8%. Apple is one of a handful of core tech stocks that has led the market’s gains. The other big tech leaders dropped, with Microsoft down 6.2%. Amazon losing more than 4.6%, and Alphabet falling nearly 6%.
“So far, what I’ve seen is a perfectly natural, healthy pullback in a bull market.Things were just getting frothy in general. There were stocks that were going up 3%, 4%, 5% day after day,” said Ed Keon, chief investment strategist at QMA.
Keon said it’s not clear how big the sell-off will become. “For myself, I’ll be a light net buyer today,” he said. “This is how markets behave … Could it have a 10% pullback? I have no idea. The market’s gone straight up in the most powerful rally I can remember in my career. At the end of the day, does the sell-off get really bad? Probably not.”
‘Frenzy’ buying
Thursday’s losses came on the heels of Wednesday’s sharp gain, which was seen as a kind of melt-up and a warning sign by some traders. In recent weeks, the aggressive buying of tech and growth stocks has also been spilling into the options markets, where investors have been bidding up out-of-the-money calls on some stocks, betting on even further stock market gains.
“The degree of the frenzy of the buying Wednesday was nothing like we’ve seen in this entire cycle,” said Julian Emanuel, head of equity and derivatives strategy at BTIG. “You look at yesterday, and tech was an underperformer which is unusual. It’s all the more unusual when you think of it in the context that some of the more cyclical themes were leading yesterday, even as the dollar was strengthening, gold was selling off, the oil market was selling off.”
Cyclical stocks were not hit nearly as much as tech Thursday. The energy sector was off just 0.7%, and financials were down 1.6%, compared to a 5.8% decline in information technology, its first decline in 11 sessions
“I think bull markets rise on an escalator and they fall in an elevator,” said Tom Lee, founder of Fundstrat. “I think today’s sell-off is old-fashioned profit-taking. It’s been unbelievably big moves since March. I don’t think it would take much to cause a sell-off but I don’t think it means much either. I don’t think this is signaling that anything is faltering or the economy is faltering. We need to catch our breath here.”
Art Cashin, director of floor operations at UBS, said some headlines on a vaccine may have hit tech Wednesday and continued to pressure those stocks.
“Some think the pullback in the high techs, which hinted the potential better news in Covid, may have been prompted by reports that the White House had sent notes to large cities in key states telling them to prepare for a massive distribution of a vaccine as early as mid-October,” Cashin wrote. He said there was not enough detail for those headlines to be responsible for all the selling, but it makes some sense.
Lee said that would explain, in part, that value plays are not losing as much. There is a theory that a vaccine would lift what he calls the “epicenter stocks,” those hardest hit by the pandemic, and tech could take a rest or succumb to profit-taking as that happens. The epicenter stocks would include airlines, industrials and other cyclicals.
“It’s healthy,” he said of the shakeout. “I’m glad to see days like this.”
Retail investors could drive selling
The market’s big run since the bottom on March 23 has lured in more individual investors, many of whom had been sitting out the bull market that started in 2009 or were too young to participate. Now, relatively new buyers have been hit hard, and that could result in more selling.
“I think this has legs,” said Emanuel. “The public is so involved.” He said big investors are still sitting on positions that are still highly profitable.
He said the market appears to be setting up for a blow off top in the Nasdaq, meaning the Nasdaq could be building into a bubble that ultimately sees a bigger sell-off. He said since the market’s strong gains in August, it appeared the Nasdaq could be topping.
“The Nasdaq was up 83% from the market low to the high this week. It’s just reasonable to expect it to sell-off,” said Emanuel. He said that after a sell-off, the market will be more attractive and in healthier shape.
Cloud firms, semiconductors, software and solar companies were all among the casualties Thursday on the Nasdaq.
The big trillion-dollar tech companies could see more selling, but analysts say investors have been using names like Apple and Amazon for safety , as well as growth. Those companies have strong earnings, but also did well during the virus lockdowns while other companies were hit hard.
Lee said part of the reason investors are looking at those stocks as safety play could be that the run-up in corporate bonds since March has made them much more expensive than the stocks on a relative basis. With interest rates at zero, bond yields are low and some stocks yield more in dividends.
“That’s why in a way there’s some logic to people saying stocks are really cheap as a bond proxy because at the end of the day, an investment grade bond is issued by the same company,” he said.
The latest speculative frenzy began around the stock splits by Tesla and Apple, moves which should not really have driven such speculative buying into the stocks. Both splits took place after Friday’s close. Apples stock gained more than 30% after it announced the split.
“Up until this year, stock splits didn’t really mean much. Then suddenly people are ascribing a lot of signals to it,” said Lee.
Emanuel said he suspects the market could also be pricing in the potential for a lack of stimulus from Washington, as Congress continues to disagree over the size of the next package to help the unemployed and companies hurt by Covid. He said sometimes a sell-off could bring Congress to the table if it continues.