Nasdaq Rally Has Some Shaky Elements
Strength in technology stocks has helped the Nasdaq 100 Stock Index ($IUXX) (QQQ) rally +16% this year. Nearly all technology stocks have participated in the rally, including unprofitable software developers, crypto firms, meme stocks, electric-vehicle makers, and anything associated with artificial intelligence (AI). However, the rally in technology stocks has defied tepid earnings from the biggest companies and has the potential to reverse quickly.
Technology stocks have rallied this year as financial conditions have eased, with bond yields dropping from their recent highs on speculation inflation may have peaked and that the Federal Reserve is close to ending its rate-hike regime.
Short-covering has clearly been a factor in the recent tech rally, which is not a basis for a sustained rally. Bank of America reports that the most-shorted 10% of stocks in the S&P 500 ($SPX) (SPY) had outperformed the least-shorted by about 14 percentage points this year.
Also, investors have often been willing to overlook earnings misses. Bank of America reports that companies that missed earnings estimates nevertheless outperformed the S&P 500 in the five days following the results.
A basket of unprofitable technology stocks comiled by Goldman Sachs is up +27% so far this year, better than the +16% year-to-date gain in the Nasdaq 100. Electric vehicle maker Lucid Group (LCID) is leading a rally of stocks in the Nasdaq 100 with a gain of +69% this year. Among AI stocks, C3.ai Inc (AI) and SoundHound AI Inc (SOUN) have both more than doubled, while BuzzFeed (BZFD) has surged +161% on a plan to use AI in content creation. SEI Investments Co. calls this year’s surge in technology stocks a “junk rally,” where the lowest-quality stocks do the best.
Some analysts are warning that this year’s rally in technology stocks could be in trouble. BCA Research said, “we are in a narrow window where fears about inflation are subsiding, but we haven’t yet given attention to slowing growth. Unprofitable and other risky companies are the prime candidates to rebound in this window, but this speculative exuberance is not a sustainable rebound.”
A number of bellwether stocks, including Microsoft (MSFT), Apple (AAPL), Amazon.com (AMZN), and Alphabet (GOOGL), have reported quarterly earnings results that were mixed or weak. Only about half of the companies in the S&P 500 tech sector that have reported results this earnings season have beaten revenue expectations, down from 59% last quarter. BCA Research warns that “too many things have to go right for this rally to continue at this pace, and that’s offset by the probability that the gains will reverse, and you’ll lose your capital.”
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On the date of publication, Rich Asplund did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.
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