With the latest move by the Fed, where they are looking to have 3 interest rate hikes in 2022 and into reducing their balance sheet, growth stocks have not been faring well. The move by Fed is a move towards a monetary tightening policy that will drain the exodus of liquidity that has been pumped into the economy since early 2020.Â
Source: Tradingeconomics.com- Fed Balance Sheet
The Fed Balance sheet has more than doubled since 2020 which is a worrying sign that things are going out of control. Therefore, the indication by Fed to reduce their balance sheet is a sound and prudent move provided they are really serious about doing it. We touch on our previous article about the 6 indicators to gauge if the S&P 500 is peaking with the Fed Balance sheet as one of our concerns.
With a potential stoppage of easy money, the prospects for growth stocks could be bleak. Most of the growth or innovation stocks run on the theory that they would be wildly profitable once they are able to scale. Moreover, it is the vision for the future and it will disrupt the whole way things are done.Â
However, most are unable to generate positive operating cash flows and their cash burn are enormous for their near-mid term outlook. The basics of investment valuation would be to discount future cash flows but if the future depends on a vision rather than an actual business-like operating model which is to a path of profitability, it would be more of speculating.
When funds are aplenty (Fed excessive money printing) and with the ” Fear of Missing Out” embedded, the funds to invest in vision and dreams (It explain the prices of NFTs reaching astronomical value) would be widely accessible.
It will be a greater fool’s game with the hope of selling to the next better player for a better price. We just hope we alight earlier and not be the last one in a high-speed train going down a ravine.Â
With tightening of the monetary policy, the investment community would be more discerning and go for stocks with a business that has sound business models that are generating cash flow. This could explain the rotation from technology to the value sector in recent times.
Source: moomoo- Chart of ARKK
Looking at the innovation stocks, the best proxy will be ARKK helmed by the goddess of innovation investing, Cathie Woods. From the charts, we could see that the uptrend has been derailed. it seems the start of a bearish trend.
Upside will be capped around the 113-115 levels. A potential target will be at the 80 levels. Any upside from now could be a dead cat bounce given the backdrop which we have highlighted earlier.
However, growth and innovation stocks have also fallen by a huge margin since the start of the year. There will be few that could survive the carnage and emerge stronger.
We would prefer stocks with positive operating cash flows and a viable business model that have a good growth runway. In our mind, stocks like Paypal, Fiverr and Zoom Communications would be a good starting point to hunt for depressed growth stocks.
Tread carefully, as 2022 would seem a tougher ride for growth and innovation stocks.
Disclaimer:
The content here is for informational purposes only and should NOT be taken as legal, business, tax, or investment advice. It does NOT constitute an offer or solicitation to purchase any investment or a recommendation to buy or sell a security. The content is not directed to any investor or potential investor and may not be used to evaluate or make any investment. Do note that this is not financial advice. If you are in doubt as to the action you should take, please consult your stockbroker or financial advisor.
