Economics

Huge Rally Ahead of Big Tech Earnings

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Massive Wednesday Rally

Stocks exploded on Wednesday in the face of the antitrust hearing and the Fed meeting. In the testimony, Congress said in 2016 Apple offered Amazon to only take a 15% cut from its video service, but Amazon didn’t go with it. That’s anticompetitive, but since the deal wasn’t struck it shouldn’t be considered an issue. 

If Apple isn’t doing anything anti-competitive, but has the option to, It’s not a major problem. Investors agreed with me as Apple stock rose 1.92% and Amazon stock was up 1.11%. In addition, Facebook and Alphabet stocks were up 1.38% and 1.45%.

Real winners on the day were small caps since the Russell 2000 was up 2.1% (the S&P 500 and the Nasdaq were up 1.24% and 1.35%). Dow was the biggest loser as it only rallied 0.61%. Boeing held the Dow down as it fell 2.83%. Regional banks exploded higher as the KBW index was up 3.45%. 

Small cap value index IWN was up 2.67%. Value stocks might be set to surpass their June 8th high because the COVID-19 crisis is getting under control. Value stocks peaked a couple weeks before COVID-19 started getting worse. They bottomed on July 9th which is 1-2 weeks before it was clear COVID-19 cases were falling.

Big Time Speculation

S&P 500 is now up 86 basis points on the year as it edges closer to an average year. We can expect the index to fall 5% to 10% this year as the big tech stocks underperform starting this summer. CNN fear and greed index rose 2 points to 65 which is greed. 

It’s surprisingly low considering how much the S&P 500 has rallied in the past month. The index is up 5.1% in the past month and it’s only down 3.77% from its record. We could be looking at a double top if the index corrects soon. Optimism is extreme. Luckily, we don’t need to just rely on feelings.

As you can see from the chart above, the 20 day moving average of the put to call ratio is about where it was before this year’s mini bear market. Technically, we are still in a bear market because the S&P 500 hasn’t made a new high. It might not make a new high until next year. That sounds insane, but some are very bearish on big tech. If the momentum tech stocks fall, the market can’t rally. 

Cyclical value stocks would need to rally twice as much as the tech stocks fall just to break even. However, they will only increase modestly. There is general euphoria in the market. Retail investors getting destroyed in the momentum stocks aren’t going to buy value stocks. They will probably just sell. Similarly, growth funds won’t switch to value stocks. FAAMNG is all they know.  

Nasdaq Headed For A Correction

It’s reasonable that the Nasdaq and big tech stocks rallied during and after the testimony because it is basically irrelevant. However, it’s insane that they rallied so much right before their earnings reports. That puts more pressure on their results. While the index has been doing well during earnings season, we’ve seen a few tech firms decline on their results. 

Investors are the most worried about Amazon which will show a decline in AWS growth. We can expect somewhere between 25% and 30% growth. If growth is at the low end of that target, the stock will probably fall.

As you can see from the chart above, the 50 day moving average of the Nasdaq’s daily sentiment index is at a 9 year high. It’s peaking at about the same level it did early this year, in mid-2019 and early 2018. Oftentimes, especially this year, we’ve seen the big internet stocks fall less than the market. These stocks have acted as safety investments. 

If the S&P 500 falls 5% to 10% with the big internet stocks underperforming, it will be a bloodbath for the Nasdaq. As you can see, the daily sentiment index has already broken. This might be the first sign of a potential pullback.

ServiceNow Falls On Guidance Raise

We just had one of the most unusual events occur. A stock fell after raising its full year guidance. That almost never happens. It happened to ServiceNow because it is extremely expensive. At its recent peak on July 20th, the stock had a higher price to sales ratio than it has ever had. That’s a huge red flag because the company had much higher growth earlier in its history. It’s not a bad thing to see a company mature and have lower growth. 

However, that process usually causes it to get cheaper, not more expensive. When the company said it was seeing little effects from COVID-19 last quarter, investors loved it. Now expectations are much higher because the stock has rallied so much.

Q2 non-GAAP EPS was $1.23 which beat estimates by 21 cents. Sales were $1.08 billion which beat estimates by $30 million and represents 26.8% growth. Billings were up 26%. The problem is seen in the chart above as Q3 billings guidance calls for only 16% growth. 

That’s down from 25% growth in Q2. The company raised full year subscription billings estimates to $4.7-$4.74 billion from $4.66-$4.72 billion. Results have been so good this year, raising guidance actually implied a weaker Q3.

This caused the stock to fall 3.77% after hours. That’s not a huge decline, but it’s a bad sign for a stock to decline after a guidance raise. It’s the opposite of when a stock doesn’t fall or rallies on bad news which is a sign of a bottom. Check out how ServiceNow performs on Thursday to get a preview of how the big internet firms will do after their reports. 

Most of their reports will be similar to ServiceNow’s in that they will be mostly good with some moderate weakness that will be picked apart because they are so expensive.

The post Huge Rally Ahead of Big Tech Earnings appeared first on Theo Trade.

Source: First Rebuttal

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