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Butterfly Network began trading on the NYSE on Tuesday.
NYSE
Stocks may have just begun another setback – and so far, it’s technology that’s leading the way down.
The
S&P 500
fell more than half a percentage point at the start of trading on Wednesday, falling 1% from its intraday high on Tuesday. The
Nasdaq 100
was down a whopping 1.4%.
It could get worse. “A 10% drop seems very likely,” said Tobias Levkovich, chief US equity strategist at
Citigroup
wrote in a Wednesday note. “We still believe the market is ripe for a downturn,” Tony Dwyer, chief market strategist at Canaccord Genuity, wrote Tuesday.
The S&P 500 is richly priced. At its current price-to-term earnings multiple, it provides an expected return on stocks about 3.1 percentage points better than the return on the safe 10-year treasury bond. That’s the equity risk premium – the extra return investors expect when they are in stocks. As that risk premium falls, equities become less attractive. (A more attractive level is usually 3.5 percentage points or higher.)
Technology accounts for about a quarter of the S&P 500’s market cap, so any pronounced movement in the industry is likely to swing the index in that direction. But Wednesday’s selloff was broader than just technology. The
Invesco S&P 500 equal weight
exchange-traded fund (ticker: RSP), which weights each holding in the index equally – not by market capitalization – fell a whopping 0.55%.
This shows that investors across the board were taking chips off the table, even as optimism about the economic recovery grew. Immunizations have accelerated significantly, and an additional nearly $ 2 trillion in fiscal stimulus could build up cash in the real economy that could be released upon reopening.
It would not be surprising to see technology stocks continue to plummet. Lots of tech stocks, such as
Netflix
(NFLX), down a whopping 2% Wednesday – expect most of their earnings to come out farther into the future than non-growth stocks in mature companies. That makes valuations of growth techniques more sensitive to rising interest rates, which erode the value of future cash flows.
The yield on 10-year Treasury bonds has risen sharply in recent days, hitting 1.31% from 1.2% on Wednesday to start the week. That’s an increase of 0.9% in early January, as investors expect higher inflation as a result of an economic recovery. And technology stocks were vulnerable in the first place, with the Nasdaq 100 up nearly 6% since Jan. 29, the end of the last multi-day slump in stocks.
While some market fears have focused on interest rates lately, the real return on the 10-year Treasury – the return minus the expected inflation rate – is still roughly negative 1%. That means investors lose value against inflation by holding the bond, making riskier assets more attractive. That could reduce the size of a relapse.
After the S&P 500 fell 3.7% between January 25 and January 29, stocks recovered quickly. Inventory weakness has been short-lived during the broader run-up in recent months, Frank Cappelleri, chief market technician at Instinet, told Instinet recently. Barron’s
Buying in weakness isn’t a bad idea if rates generally remain low and the economy continues to recover.
Write to Jacob Sonenshine at [email protected]