Review the latest Weekly Headings by CIO Larry Adam.
- Tech sector was the ‘teacher’s pet’ during rally
- ‘Studying’ the historical impact of corporate tax hikes
- Big-Pharma ‘doing their homework’ on vaccine safety
School is back in session! Whether it be virtual or in-person, we hope all students had a safe, terrific first week back in the classroom. We also wish a positive, productive academic year to our teachers, all of whom have gone above and beyond to adjust lessons plans in adherence with COVID-19 related guidelines in an effort to ensure that the next generation of thought leaders receives a quality education during this unprecedented time. Any teacher knows that one of the best ways to keep students engaged is to ask questions, and from my own experience as a graduate professor at Loyola University Maryland I know its not only a way to assess learning but also a way to spark curiosity and conversation. For investors, the S&P 500’s recent 7% pullback, the upcoming presidential election, and the announcement of a pause in a late-stage vaccine clinical trial have all sparked concern, so we’re taking the opportunity to address these very important questions that have come to light this week.
- Is This A Repeat Of The Dot Com Bubble? | The S&P 500 posted its best summer since 2009, but lost steam heading into Labor Day Weekend, and as of Tuesday, had declined ~7% in just three trading days. Heading into this pullback, the Technology sector was the market’s ‘teacher’s pet’ as it outpaced the broad S&P 500 by 28%. But just as Tech led the rally, it also declined the most—falling more than 11% over the same three day period. The speed and magnitude of the decline had investors questioning if history would repeat itself, setting up the recent tech-oriented run-up for a painful reversal akin to the Dot Com bubble bursting in 2000. However, there are several factors that differentiate the current state of the Tech sector from the Dot Com Era.
- Valuations for the Tech sector are elevated from a historical perspective (NTM 26x vs. 20-year average of 18x), but they are well-below the 2000 peak of 57x and are justifiable given the earnings outlook. The sector is expected to see earnings growth of 5% and 14% in 2020 and 2021 respectively—one of only two sectors expected to see positive earnings growth this year. Lower interest rates should also be supportive, given that today’s 10-year Treasury yield of 0.68% is well below the 6.4% yield in 2000.
- Today’s leading tech firms have stronger fundamentals and multiple revenue streams (hardware, software, services, cloud, content, etc.) rather than being one trick ponies focused on a single product or service. Furthermore, the leaders continue to find new applications for existing technologies and invest in future technologies to remain competitive.
- In 2000, tech companies were predominately focused on business demand, compared to today where they are at least equally focused on consumer demand as a growth driver. The roll-out of 5G should also serve as a catalyst for both of these markets.
- Bottom Line: Info Tech and Communication Services remain two of our favorite sectors, as they are supported by strong fundamentals and long-term growth catalysts even in the aftermath of the COVID-19 outbreak. For these reasons, we’d encourage investors to use pullbacks as potential buying opportunities.
- Will Biden’s Corporate Tax Policy Hurt The Equity Market? | With ~50 days to Election Day and former VP Biden maintaining his poll lead, investors have questioned (assuming a Democratic sweep) the equity market impact of Biden’s call for a partial reversal of the 2017 corporate tax cuts (an increase from 21% to 28%). Intuitively, an increase would be a headwind for equities, as it reduces profitability and dampens earnings growth. In fact, our analysis suggests that the proposed higher tax rate, if implemented next year, would cut earnings by ~10%. However, after ‘hitting the books’ and studying the impact of the last four corporate tax hikes in the post-World War II era, we found that the S&P 500 rallied ~8% in the 150 days following the increase and was positive 100% of the time. In addition, none of the tax hikes caused a recession in the year following their implementation.
- Bottom Line: Assuming our elected officials have ‘studied’ the health of the economy, we cannot unequivocally hypothesize that higher corporate tax rates will lead to a market decline. Other dynamics such as monetary policy, fiscal policy, the economic recovery, earnings growth and investor sentiment may ultimately dictate the direction of the equity market.
- Is AstraZeneca’s Trial Pause An Early Sign Of Trouble For Vaccine Development? | AstraZeneca announced a ‘pause’ in their Phase III clinical trial to investigate a potential adverse reaction. While disappointing, it is important to remember that late stage trials are designed to assess the safety and effectiveness of a vaccine across a large, diverse population. A ‘pause’ is not unusual in trials and there is a reasonable probability that after an independent safety review, the trial will resume in the next week or so.
- Bottom Line: This specific vaccine is one of three currently in Phase III trials, but there are over a dozen other potential candidates supported by a record level of research funding that should hopefully result in a successful outcome. Our biotech analyst, Steve Seedhouse**, believes there is an 80% to 90% probability that a limited-use vaccine will become available by year end.
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