Growth vs Value
What's the difference?
Growth: Looks for a stock priced $10 today that will be priced $100 in a few years
Value: Looks for a stock priced $10 today that's really worth $100 today
Those numbers aren't absolutes but gives you an idea of what these two differing investment styles focus on. One, looks to the future for exponential growth. The other looks to the present for unappreciated value. Both expect the price to rise obviously.
Cathie Wood, founder of ARK investments has rapidly become the go to cheerleader for high growth stocks. After a stellar 2020, her funds.. cooled off.. a bit in 2021. ARKK, the flagship fund, finished -28.42% last year vs the S&P's total 28.7% return in 2021. That's a difference of 57.18% for those tracking at home. Recently, instead of adjusting for this massive underperformance, Wood is instead doubling down. She's claiming that there's no bubble in growth stocks, despite the decade long run-up, and in fact these stocks are in "deep value" territory.
Is she right?
One of the examples cited by her is $ZM . Woods states in her letter to investors
"since its peak on October 19, 2020, Zoom’s stock price has dropped roughly 68% to a level not seen since June 1, 2020, as shown below. Yet, since its fiscal quarter ended July 2020, Zoom’s revenue and EBITDA have increased 58% and 53%, respectively. Last quarter, on a year-over-year basis, against a 367% gain during the depths of the coronavirus crisis, Zoom’s revenue increased 35% and its EBITDA, 52%."
She goes on to state "We do not believe this shift was “temporary.” Stimulated by “stay at home,” this transformation has shifted to “stay connected” in a hybrid work world and “stay competitive.”
Here's my beef with that.
Can anyone argue that the lockdowns of early COVID represented anything other than a peak for work at home? Sure there are companies that are CONTINUING to support remote work. Are there any companies that, for the first time, are STARTING work from home. Companies that went through the lockdown changing nothing that are suddenly transitioning to remote work? I certainly can't think of any. I CAN think of many many companies that were full out remote work that are pushing for a return to the office. The emergence of Omicron has slowed this rerun but again, are there any companies that due to Omicron are for the first time transitioning to remote work? Add to this the fact that Zoom was well positioned initially for the remote work of COVID but companies didn't sit idly by and lament the fact that Zoom was out in front. The market is being FLOODED with competition from sources like $MSFT who has deeply integrated Teams into their Windows 11 OS release. Or consider $AAPL who for the first time opened up FaceTime for users of Android phones and Windows Computers through the Chrome browser. These are deep, deep integrations that will certainly chip away at Zoom's marketshare in a market that is dwindling organically.
I believe Woods has failed to recognize the landscape shifting beneath her feet and instead of adjusting with the changing dynamic has instead used logic of "well it worked before" to justify diving deeper and deeper into companies that enjoyed a period of exponential growth but perhaps have seen their best days in the rear view. Her analysis completely ignores any potential rate hikes by the Federal Reserve.
Let's discuss WHY the Federal Reserve would raise interest rates. What's the actual purpose of the move? You may not be aware of this but the economy functions on credit. There's more than 50x more money existing in credit agreements than actual currency that exists in the world. There are approximately $40 trillion physical US dollars in circulation. There is over $1.2 QUADRILLION invested in derivatives alone. When you heard talk of the Fed "printing money" what they were actually talking about was the Fed providing credit. ONLY THE UNITED STATES TREASURY DEPARTMENT CAN ACTUALLY PRINT PHYSICAL CURRENCY. When the Fed adjusts the Federal Funds rate they're adjusting the rate at which commercial banks borrow and lend their excess reserves to each other overnight. Raising this rate removes credit from the system by making the cost of borrowing higher. Lowering this rate increases the amount of credit in the system by making the cost of borrowing money lower.
How does this affect growth stocks?
Growth stocks are usually early in life companies that aren't turning a profit. How then do they finance their day to day operations when they're losing millions, sometimes BILLIONS of dollars every month? The primary way they do this is via credit. They borrow the money. The current Federal Funds rate is 0.25% meaning there's almost no real cost to borrowing money. This low rate environment has existed almost non stop since the 2008 financial crisis. As such, not surprisingly, we've seen an explosive outperformance by growth stocks over value stocks. There's basically no cost to borrowing so these non profitable companies are able to borrow large sums of money which in turn fuels their growth.
What happens when the cost of borrowing goes up?
Companies can't borrow as much in actual liquid cash because they face an increasing cost of borrowing. You can't borrow as much, you can't grow as much. THAT'S THE WHOLE POINT OF RAISING INTEREST RATES!!!!!! It's not an unintended consequence. It is THE POINT!! In an environment with high inflation the Federal Reserve raises rates to slow things down. They do it to remove credit from the system. If growth stocks don't stop growing as fast it means it didn't work and they'll just try something else. The result the Fed is SEEKING is a slowing of this growth. Why then would one assume that with the potential of THREE rate hikes this year that growth stocks would turn around their underperformance? When you consider that every action the Fed will be taking is EXPLICITLY intended to slow growth why would anyone expect growth to actually speed up?
The fact is that if somehow the Fed raises rates and growth continues to accelerate they will just do something else with the intention of slowing this growth. It's literally the only way they have to get control of inflation. Cathie Woods is grossly misguided in her assessment that in an environment with high inflation and a hawkish Fed somehow growth stocks are going to be immune from these pressures and continue on like it's 2020. It's not 2020. It's 2022. The Fed has already scaled back their active injections into the economy by half. By March they'll be totally done. No more Fed intervention into the markets. In 2020 they were promising UNLIMITED intervention in order to stave off economic collapse. OF COURSE growth companies did extremely well in 2020!! It is demonstrably wrong to presume that actions being taken to slow growth are instead going to reaccelerate it back to a period when the Fed was specifically trying to stimulate growth. The Fed wanted the economy to grow, they took action, it grew. It's not magic. It's action/reaction. Now due to record high inflation they want to slow things down. Action/reaction.
If you want to be successful as an investor there's no surefire tip I can give you outside of don't bet against the Fed. There's no shortage of conspiracy theories about what the Fed does but it's not a conspiracy that they have the power to drive the market in whatever direction they deem necessary in order to achieve their goals. When the Fed says they're taking action to slow things down, guess what, things are going to slow down. Betting against that is the easiest way to guarantee a disappointing outcome. At -28% for 2021 you'd think ARK would understand this but it seems that some people are immune to learning lessons. Don't let that be you.
https://ark-invest.com/articles/market-commentary/innovation-stocks-are-not-in-a-bubble/
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#growth #value #arkinvest #tcardizzle
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