Tuesday Tech Crash

Stocks looked like they were going to continue their uptrend on Tuesday after the sharp rally on Monday. The market was up in the morning, but then crashed in the afternoon. The S&P 500 was down 1.73% and the VIX was up 6.99% to 22.50. The biggest weakness was in tech as the Nasdaq was down 2.93%. The tech sector in the S&P 500 was down 3.47%. There were a few negative headlines which hurt the individual players. There was also broad based selling which occurred indiscriminately. Twitter stock was down 12% partially because Citron Research came out with a negative piece about Twitter profiting off its user’s data. The stock is down 23.3% in the past 2 weeks. This might just be a correction in the 156% rally in the past year. Ultimately, Twitter is still a company with slow user growth that is just trying to reach profitability after being in business for 10 years.

Nvidia stock was down 7.76% after the firm said it would suspend its self driving car program in lieu of the Uber accident. This was a bad day to have any negative headlines about a tech company because there was a wave of selling. Facebook stock renewed its downturn as it fell 4.9% on fears of regulatory action. Privacy concerns are also gaining steam as users become weary of being tracked. The stock is off 21.17% from its all-time high. It closed right at the low made on yesterday. It is technically important for it to hold that level on Wednesday. With data privacy in the news, there were stories about how Google has as much, if not more data than Facebook does. With the possibility of regulation on the way firms handle people’s data and the negative headlines on the nascent self driving car industry, Alphabet stock fell 4.47%. It is down 15.21% from its January high and is close to the low it made in February.

The chart below shows the FANG+ index had its worst decline in 3 years. Netflix stock was down 6.14% even though there weren’t any major negative headlines about the firm. Tesla stock isn’t in this index, but it’s one of the story tech stocks which trades on momentum. It fell 8.22% on news the National Transportation Safety Board will be investigating a fatal crash a Tesla was in last week. Tesla stock is down 21.89% from its all-time closing high in February as the market worries about Model 3 production delays. The firm’s debt was downgraded by Moody’s as speculative bond buyers are fleeing the name. Tesla is a firm which is highly dependent on financial conditions because it relies on issuing junk debt to stay afloat and invest in creating new products.

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The chart below is a simple trendline which shows the performance of the momentum tech stocks namely: Facebook, Amazon, Netflix, Nvidia, Alphabet, and Apple. As you can see, the trend line is being tested. More than likely, a breakdown in these names will coincide with the S&P 500 falling below the 200 day moving average and the February low. I’m not saying it will happen; I’m saying that the bull market leadership is everything. If investors are seriously looking for another group of stocks to lead the market higher, they will be sorely disappointed.

While the FANG stocks are very expensive, they do have fundamental growth backing them. Other stocks could get expensive like when the consumer staples names were bid up to extraordinary levels in 2016, but the fastest growth names will always lead the market. The decline in these names is the completion of the correction that started in February. The fact that they are declining indiscriminately shows that market is punishing the winners. If there’s nothing fundamentally wrong with Microsoft, Amazon, and some of the other tech winners, there’s no need to replace them as leaders. It will probably be a temporary sector rotation.

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Bonds Rally Sharply

The money flew from risky tech stocks to the safe haven that is the long bond. The TLT was up 1.07%. The 10 year yield fell 8 basis points to 2.775%. This is the lowest level since early February. The bulls must be shocked by this because yields are supposed to be increasing with heightened growth and inflation. I am not surprised because I think growth is going through a temporary slowdown. Inflation also isn’t ramping up as some feared in early February. The 10 year inflation breakeven rate is 2.08% which is only up 8 basis points since January 2nd. The increase in inflation estimates occurred in December. Ever since then, it has been virtually flat.

The 2 year yield was down about a half of a basis point which means the curve flattened severely on Tuesday. The latest difference between the 10 year yield and the 2 year yield is 51 basis points. This puts it precariously close to the flattest point in this business cycle. As I stated, if it falls below 50 basis points, it will be the top story in the financial media. To be clear, my expectation that the 10 year yield would fall 20 basis points from 2.95% has almost fully been realized, making me not close to as bullish on the long bond as I once was. In a few months, when growth accelerates, I might call for the 10 year yield to exceed 3%.

The declining yield trade worked in the stock market as real estate, utilities, telecom, and consumer staples were all up. These sectors were also up during the rally on Monday, so it has been a winning trade in up and down markets.

Conclusion

Tuesday was a very interesting day as the yield curve flattened and tech stocks fell sharply. If the leaders of the market are taken out, the bull market will be over. I’ve tried to contextualize the importance of the big tech stocks. They aren’t more important than any other time in market history, but the top firms are always important. The market can rally without Facebook, but if the other momentum names also fade, it will be difficult for the S&P 500 to move up.