Zoom Stock – What It Means for Investors When Growth Becomes Value
There has been a lot of talk recently about a market that is shifting from “growth” to “value.” That is used to explain the resurgence of sectors such as travel and industrials, sectors that stayed down for a while over the last year, as opposed to previously high-flying areas like big tech, which is now pulling back. There is no doubt that has been happening, but there are two important questions: Why is this happening, and what does it mean for investors?
“Why?” sounds like a simple question but in this case, it is anything but. There are multiple reasons why money has shifted away from growth stocks such as Apple (AAPL) and Tesla ((TSLA)) and into things like airline stocks and banks. The thing is, none of them are really about whether the stocks are classified as growth or value.
At its heart, this rotation is not about labels; it is about the time-honored tradition of markets to overshoot and exaggerate a logical trend. Once momentum starts to build in a stock or sector, it is hard to stop. That is especially true with obvious stories. When strong buying gets noticed, latecomers to the party start to research the stocks being bought and see obvious cases for buying them. But by that time, those obvious positives are already priced in. Still, fearful of missing out on a big move, money piles into already-elevated favorites.
At some point, reality starts to set in, and it becomes clear that the move up was way overdone. Take Zoom Video (ZM), for example:
The case for Zoom was the classic obvious story. After we were locked in our houses, Zoom became ubiquitous, used for everything from business meetings to family reunions. The company name became adopted as a generic term for video meetings, and it seemed that everyone had the app.
Strength in the stock was inevitable and fully justified, but it just went too far. Zoom did its part, proving naysayers wrong in almost every way. The company monetized their users, beat back competitors, even those with massive resources, and maintained good numbers. Even so, the stock’s 750% increase from pre-Covid levels that the high represented was overdone and a pullback had to come at some point.
The same thing can be said about most big tech stocks. They did what was expected and took advantage of the situation, but the market simply got ahead of itself. That tends to happen at any time, but when the Fed and other central banks are handing out investable cash like candy, even the exaggeration gets exaggerated.
Some kind of adjustment was always coming, and it was only logical that as traders and investors shifted from the beneficiaries of the pandemic and related lockdowns, they turned to their exact opposites: the obviously hard-hit. There too, the move had been overdone but in the opposite direction, with valuations that reflected the conditions at the time, but implied that they would never change.
The thing to understand here is that these market gyrations are about the natural tendency of traders to overreact and the power of momentum in a FOMO driven market. They say nothing about the fundamental value of the stocks concerned, or about the performance and prospects of the companies involved.
Because of that, we can quickly get to a situation where growth stocks are the value, and value stocks are dependent on growth to justify their market levels.
A stock like Southwest Airlines (LUV), say, is still considered a “value” stock by a lot of people, but trailing and forward P/Es of 108 and 204, and a PEG ratio of around 47, scream that it is anything but. On the other hand, look at something like Apple. The most successful company in human history, in the midst of a long-term growth cycle driven by 5G, trades at 28x forward earnings.
The market’s tendency to overshoot on big moves but eventually return to the mean has resulted in a situation where we are in a place where the reversal of an overdone move now itself looks overdone and likely to reverse and, as strange as it may sound, if you are looking for value as an investor, you should be looking at growth stocks.
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