Dow and S&P 500 Drop After Today's Rate Pop

• US 10-year yield jumps to a fresh 7-year high 
• Unemployment rate falls to lowest in 49 years
• September job creation falls to its lowest level in a year
• But unemployment rate drops to lowest level since December 1969

These headlines are geared to spook investors. Everyone expects rates to rise. The Fed has been clear on their guidance. They provided a dot plot chart that outlines all the upcoming rate hikes, but CNBC and the mainstream media need eyeballs to make money, so they try to spook investors and individuals into thinking that today's rate hike is "news." 

The truth is that today's hike is just another reminder of how overvalued these FANG stocks and hyped up Tesla/Roku/Crypto/Apps/Cannabis "businesses" have become. The S&P 500 is dominated by a handful of growthy tech stories. As interest rates rise investors will naturally shift allocations from story stocks to actual return oriented investments. When interest rates are zero, it makes more sense to speculate on art and other risky investments that are temporarily moving with a bull market tailwind. But once rates start rising, there is both a cost to borrowing to fund the speculation, and there are real opportunities to earn yield in traditional asset classes. Lastly, there are bigger obstacles for these growthy companies to actually fund their growth as their venture capital liquidity pools dry up.

David Einhorn has been frustrated by the continued multi-year drag on performance from this growth-first trend. But at some point over the next 5-10 years, there is no doubt that the true value oriented opportunities offered up in this market will generate much better performance than the momentum story stocks that carry insane valuations and tremendous risk.

"The current market view is that profitless companies with 20-30% top-line growth are worth 12x-15x revenues, while profitable companies that lack that level of opportunity are worth only 5x-8x after tax earnings. As an arithmetic exercise, if you pay 12x revenues for a company that eventually makes a 10% after tax margin and trades at a 20x P/E, the company has to sustain a 25% growth rate for 8 years for you to break even, and for 12 years for you to make an 8% IRR (requiring 15x revenue growth). If the company is increasing the share count by paying employees in stock, the math gets worse."

The bottom line is that the tech sector has grown to dominate the S&P 500 both because of low interest rates and from low cost ETFs that allow novices to throw their capital at this self-fulfilling bull market index. Investors have no clue that these super low cost mobile platforms are really just pushing them into a handful of super growthy tech stocks that can easily crater as rates rise and more nimble investors shift to value before its too late.

Dan Shainberg

#DanShainberg

#RecessionResister
@DanShainberg

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