Nasdaq plunge: Why Wall Street’s tech index has now entered correction territory | Business News

It has not been the brightest start to 2022 for tech stocks and, in particular, the giants that have come to dominate the market.

Nasdaq on Wednesday night officially entered so-called ‘correction’ territory.

In other words, it has fallen more than 10% from its most recent peak on 22 November. The index has fallen in eight of the last 10 sessions although opened higher this afternoon.

Its 10.7% decline, however, looks positively respectable compared with some of the other big decliners in the tech sector.

The biggest casualty of all is Netflix, whose shares have fallen by 26.4% – taking it into bear market territory – since they hit an all-time high on 17 November.

Almost as badly scalded have been investors in Amazon. Its shares are down by 16.9% since 19 November and some 17.2% lower than the all-time high they achieved on 13 July last year.

Microsoft, meanwhile, is down 13.2% since its shares peaked on 22 November.

Of the other big US tech giants, shares of Alphabet, the parent company of Google, are down 10.4% since they hit their all-time high on 19 November.

Meta Platforms, the new name for Facebook, is down by 9.7% since the third week of November, but it has been in decline for a while longer. Its share price currently sits some 17% lower than the all-time high it set on 1 September.

Only Apple, among the US tech giants, has really avoided the carnage. Its share price is off by just 9.1% since it hit an all-time high on 4 January.

A girl walks past the Apple logo outside an Apple store in Shanghai, China on Monday July 2, 2012. Apple has paid $60 million to settle a dispute in China over ownership of the iPad name, a court announced Monday, removing a potential obstacle to sales of the popular tablet computer in the key Chinese market.   (AP Photo) CHINA OUT
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Apple has been among stocks to have avoided the worst

The pain is being felt even more among other big tech names.

Shares of Tesla, for example, are down 19.9% since they peaked on 4 November, while Nvidia, the chipmaker, is down by 28% since hitting its all-time high on 22 November.

For some, the malaise goes further back. The chips giant Intel peaked on 12 April last year and has since fallen by 21.7%. Zoom, a darling of the pandemic, hit its all-time peak at the height of lockdown in October 2020, since when, it has fallen by a bone-crushing 73.2%.

In all, around half of all US tech stocks have fallen by 50% from their all-time highs.

There are a number of reasons behind the sell-off.

One possible explanation is that tech stock valuations were too high. During the first week of November, the Nasdaq Composite’s price-earnings ratio (the higher a P/E ratio is, the more ‘expensive’ a stock is deemed to be) was north of 31.

The broader S&P 500 index was trading on a P/E of 25 compared with a historic average of 15 or so. In other words, investors were expecting earnings from companies to be better than the long-term average.

But the outlook for company earnings has not deteriorated so dramatically since November as to explain the falls that have been seen.

So other factors are at play – and the most important of these is that the US Federal Reserve has woken up to the serious threat now being posed by inflation.

Jay Powell, the Fed’s chairman, said at the beginning of December that the recent spike in inflation could no longer be considered as a “transitory” phenomenon due to supply chain bottlenecks created by the pandemic.

Shortly after that, the Fed – which only six months ago was hinting at one possible interest rise during 2022 – has indicated that there will be as many as three interest rate rises this year, with some economists suggesting that there may even be four. It is also talking about reversing some of the emergency asset purchases (Quantitative Easing in the jargon) that it carried out during pandemic.

So the cost of borrowing is going to rise more rapidly than was anticipated even a few months ago. The bond markets have already adjusted to reflect that. The yield on 10 and 5-year US Treasuries (US government IOUs) have risen this week to their highest levels since January 2020.

Equity investors are also having to think about what that will mean for company earnings. They are also reappraising the relative risk involved in holding tech stocks which, in some cases, only promise big earnings in the future.

Think about it this way. The share price of a particular company reflects the price you, as an investor, are prepared to pay for future cash flows (i.e. dividends) from that company in the future. Tech stocks like Tesla are very highly rated (the rating reflects the share price as a multiple of expected or historic earnings) because investors expect that, over time, they will be highly cash generative.

However, at a time when bond yields are rising, it becomes more of a stretch for these companies to justify to investors the risk of holding their shares when they can hold a comparatively less risky asset like a two-year US Treasury bond.

Higher bond yields mean a fall in the present value of cash flows expected from a tech stock well into the future.

That is the main reason behind falls in tech stocks.

Some tech investors think the sell-off has been overdone.

Joe Lonsdale, the multi-millionaire co-founder of the software firm Palantir Technologies and now a venture capital investor, told CNBC today: “I’m seeing some public stuff where I’d say ‘wow in the private markets this would cost twice as much’.”

Other market watchers wonder whether, with the Fed also keen to keep the US economy growing robustly as it emerges from the pandemic, it will really be as aggressive in tightening monetary policy as the bond market appears to be suggesting. After all, markets over-compensate both to the upside and the downside.

What the current turmoil does mean, though, is that the next big earnings announcements from the tech giants are going to be pored over even more avidly than usual.

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