Nasdaq 100 has now reached -10% compared to the level one year ago. This performance is the same as seen for MSCI World, but an almost 20 percentage point underperformance to Value stocks.
In our view, the performance of global stocks for the remaining part of 2022 depends heavily on the sentiment of Nasdaq-100. The current correlation between Nasdaq 100 and MSCI World supports that.
In this TAD, we look at the biggest obstacle to Nasdaq 100 performance, namely the Great Mean Reversion. We see three areas where mean reversion will be a headwind for Nasdaq going forward: 1) Earning to trend 2) Valuation to trend & 3) Growth to Value Factor
Earnings to Trend: Only if Nasdaq 100 EPS growth is genuinely secular is there a slim chance that profits will continue to move away from their 25-year trend line. But unfortunately, we see a set of obstacles for that to happen.
The profit cycle for Nasdaq100 companies has been as strong as it normally gets. Mean reversion back to trend earnings will most likely happen over the coming quarters. EPS estimates have since the Covid19 outbreak been skyrocketing and are now +30% above-trend growth. When it comes to single stocks, Nasdaq-100’s performance will, in our view, be susceptible to negative revisions for – in particular, Apple, Microsoft & Alphabet.
Valuation to Trend: Our Valuation matrix for Nasdaq100 companies shows that the index is 30% above its 25Y mean valuation.
Only if Nasdaq 100 long-term growth expectations stay elevated is there a slim chance that valuation will remain above its long-term trend. Unfortunately, we see more obstacles to that happening. When it comes to single stocks, Nasdaq-100’s performance will, in our view, be sensitive to a devaluation of Apple, Microsoft & Visa.
Growth to Value Factor: Relative Price/Book valuation for US growth stocks (incl. Nasdaq 100) to US Value stocks have doubled over the last 15-year period. From being priced around two times Value stocks in 2005, they are now priced around x4. Over the same period, real long-term interest rates have moved from +2% to between -1.5% to -1%. With a likely reversal of real rates, The Great Mean Reversion in relative factor valuation & performance between US Growth and US Value appears on the cards.
Conclusion: The Great Mean Reversion has already started. Although the pace with which this reversion occurs is an obvious unknown, we expect the reversal to continue in the remaining months of 2022. Sensitivity to Mega Cap performance is vast and another unknown. Most Mega caps growth stocks are already seeing EPS moderation, while fewer of the same companies have started mean reversion in their valuations. Our expectation about Great Mean Reversion is affecting our equity market allocation. Hence, we continue to allocate with caution when it comes to Growth stocks and Nasdaq100. Unfortunately, this view also partly is the reason for our underweight of risk assets. Nasdaq 100 is currently a very dominating index for the sentiment in Growth stocks but also for the total global equity market.