'We will resist the temptation to fish for the bottom': 42-year-old market veteran says market-dominating tech stocks are still overvalued - and their impending demise will drive the rest of the market further down

‘We will resist the temptation to fish for the bottom’: 42-year-old market veteran says market-dominating tech stocks are still overvalued – and their impending demise will drive the rest of the market further down

  • Tech stock valuations are still too stretched, says Bill Smead.
  • Their decline will drag the rest of the market down as well, he believes.
  • Smead said the bear market is probably only halfway through.

The most beloved names in the market over the past decade — so-called FAANMG stocks (or some iteration of that acronym) — helped propel the S&P 500 into the longest bull market in history from 2009 to 2020.

After all, in recent years only this handful of stocks (which includes Apple, Amazon, Netflix, Meta, Microsoft and Alphabet) have consistently accounted for more than 20% of the index.

Like the rest of the market, however, they have taken a hit over the past year, especially Meta and Netflix, which are down 56% and 60% respectively.

But according to Bill Smead, a 42-year market veteran and founder and CIO of Smead Capital Management, the group is still overvalued. And that means trouble for stocks, as well as the rest of the market, going forward.

In a recent commentary, Smead compared the market capitalization of the top four S&P 500 stocks as a percentage of domestic corporate earnings during the dotcom bubble to the top four currently: Microsoft, Apple, Amazon and Google (Alphabet).

tech market caps

Smead Capital Management

“As you can see, it took years for tech bubble stocks of 1999 to get interesting. Microsoft (MSFT) peaked at around $58 per share and was $28.50 per share in 2012. Intel (INTC) and Cisco Systems (CSCO) have never returned to their 2000 highs,” Smead said. “Will Amazon (AMZN), Facebook (FB/META), Netflix (NFLX), Alphabet (GOOGL) and Apple (APPL) be any different?”

Smead also included a chart of the average valuation of the top 100 tech stocks, which still shows historically high levels.

technology valuations

Smead Capital Management

“Hannibal Lecter said to Clarisse in the film Thesilenceofthelambs, ‘Have the lambs stopped crying?’ The chart above answers no,” Smead said. “In the world of Smead Capital Management, they haven’t started shouting about today’s S&P 500 stock market yet! Therefore, we will resist the temptation to go bottom fishing.”

Given his bearish trend in tech stocks, as well as his study of past bouts of financial euphoria, Smead believes the S&P 500 bear market will last another 9-12 months.

“We’ve looked at all the fallout from episodes of financial euphoria, and they’ve lasted from 22 months to over three years. So this one shouldn’t be less than, say, a year and nine months, or two years or more,” he told Insider on Friday. “The sins of the previous bout of financial euphoria must be atoned for. You have to have a punishment that matches the crimes, and Charlie Munger called this euphoria the greatest of his career because of the totality of it.”

Smead’s views in context

Smead’s view that tech stocks are overvalued is shared by some.

For example, David Eiswert, a portfolio manager at T. Rowe Price, told the Wall Street Journal that investors should be cautious about buying tech stocks again just because their stock prices have fallen, and that the market may be less willing to pay multiples of high prices. for equities as they have been in recent years when interest rates were low.

Others, however, are more bullish on the sector: investors seem continually ready to buy the sector’s decline.

Tech stocks are one of the most interest rate sensitive sectors in the market. While they’ve thrived on a “there’s no alternative,” or TINA, mentality, in recent years investors have been unable to find meaningful return in assets such as Treasuries, Tech stocks have also suffered the most over the past year as rates have risen.

The tech-heavy Nasdaq 100, for example, is down 28% year-to-date, while the S&P 500 is down 16%.

As for Smead’s views on the broader market, most Wall Street strategists and fund managers remain relatively bearish, or at least cautious.

Last week, Guggenheim Partners’ global CIO Scott Minerd told Insider that he expects the S&P 500 to bottom next year at around 3,000 as the index’s average price-earnings ratio is still too high. The index is currently around 4,000.

Bob Doll, the CIO of Crossmark Global Investments and former chief equity strategist at BlackRock, also told Insider that the current rally will fail like previous surges this year. However, he sees the market remaining above 3,500.

How equities move in the coming months likely hinges on inflation data and how the Fed responds to it.

Inflation slowed in October, reaching 7.7% year-on-year, compared to 8.2% in September. Stocks jumped on the news.

But so far the Fed has shown no sign of capitulating to its hawkish promises and has said it remains committed to bringing inflation down to 2%.

If the U.S. economy doesn’t collapse as a result, and rates continue to rise and then stay high, tech stocks — as well as the broader market — could face further trouble, Smead warns.

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