Weekly Update 10/03/2023
Markets Plunge Further!
Falling Utilities, Rising Yields Weigh on Stocks
Dow Goes Negative on the YTD
More Stocks Hit 52-week Lows
Fidelity Buys the Dip?
Government Shutdown Avoided, for now. Ukraine aid stripped from spending bill.
Weekly Meetings:
INVESTMENT CLUB THURSDAYS 6 PM (BPC188)
INVESTMENT FUND THURSDAYS 7 PM (BPC188)
—Market Madness—
Dow drops more than 400 points Tuesday and turns lower for 2023 on interest rate spike
Stocks tumbled on Tuesday as Treasury yields hit their highest levels since 2007, raising concern higher interest rates would freeze the housing market and tip the economy into a recession.
The Dow Jones Industrial Average lost 471 points, or 1.4%, in its biggest decline since March. The S&P 500 slid 1.5% to its lowest level since June. The tech-heavy Nasdaq Composite dropped 2% as growth stocks saw some of the biggest losses because of the rise in rates.
With Tuesday’s losses, the Dow went into the red for the year. The broader S&P 500 is still up 10% for 2023.
The 10-year Treasury yield last traded at 4.802%, reaching its highest level in 16 years. The benchmark yield has surged in the past month as the Federal Reserve pledged to keep interest rates at a higher level for longer. The 30-year Treasury yield climbed to 4.941%, also the highest since 2007. The average rate on a 30-year fixed mortgage neared 8%.
Seasonal weakness is “pretty normal” for the market in September and October, according to Chris Zaccarelli, chief investment officer at Independent Advisor Alliance. However, he noted that ongoing concerns about higher interest rates could mean more downside is ahead for stocks.
“The threat to equities is more along the interest rate side. We really need to get through this bond sell-off, and find some type of equilibrium in the bond market, before we think stocks will be able to find a bottom,” Zaccarelli said.
The rise in yields poses “a major headwind to equities,” according to Alex McGrath, chief investment officer at NorthEnd Private Wealth. “Unless that stays flat or starts moving backwards, it’s just going to be a major headwind to equities across the board going through the end of the year,” McGrath said.
Stocks traded inversely to yields throughout the day, moving lower each time as yields spiked. The latest catalyst for the rate boost was the release Tuesday of the August job openings survey, which signaled a tight labor market. The survey showed 9.6 million open roles in the month. Meanwhile, economists polled by Dow Jones had anticipated 8.8 million jobs. A strong labor market is allowing the Fed to tighten policy without fear it is going too far.
Fear spread on trading floors as the session continued, with the Cboe Volatility Index jumping to it highest level since May. That barometer rises when investors see more tumult ahead.
Stocks with the most to lose from rising rates and a potential recession led the day’s losses. The SPDR S&P Homebuilders ETF shed nearly 3% with Home Depot and Lowe’s falling. Goldman Sachs and American Express were the biggest losers in the Dow.
Stocks like Nvidia and Microsoft fell as higher interest rates dented enthusiasm for growth stocks trading on the promise of higher earnings down the road.
Bill Ackman: Seeing lots of evidence of weakening in the economy
Top tech stocks are trading at the biggest relative discount in over 6 years with earnings set to spark momentum, Goldman Sachs says
Mega-cap tech stocks are not only set to reverse their current downturn, they’re likely to continue outperforming the broader market for years to come, Goldman Sachs analysts wrote in a note published Sunday.
While the sector’s seven leading equities have dropped 20% from their July peak, they’re now trading 1.3x higher than their price, earnings per share, and long term growth (PEG), below the average S&P stock’s 1.9x ratio. It’s a level reached only five times in the past decade, and the largest discount since 2017.
“As recently as January, the group commanded an 18% PEG premium to the median stock (2.2x vs. 1.9x). If consensus growth estimates remain unchanged and the mega-cap tech stocks trade back to their average PEG of the last decade (0.84x), the group would appreciate by 20%,” Goldman said.
This could happen soon, with the upcoming earnings season likely to be a possible catalyst for more gains in the sector. For two-thirds of the earnings seasons since 2016, leading tech equities have led earnings by three percentage points.
And today’s top tech names — Apple, Microsoft, Amazon, Google, Nvidia, Tesla, and Meta, also known as the “Magnificent Seven” — are expected to see 11% sales growth in the upcoming third quarter results, compared to an estimated 1% for the aggregate S&P 500.
Not only could this boost the tech industry back to 2023 highs, it could help the sector continue outpacing the average S&P 500 stock throughout the next few years.
That’s as superior sales growth has been a long-standing trend for mega-cap tech, even before artificial intelligence hype drove a massive surge in their share price. For instance, from 2013 to 2019, the sector increased at a 15% compound annual growth rate, compared to 2% for the rest of the S&P.
Through 2025, the top seven stocks are projected to grow nine percentage points faster than the remainder of the index.
AI Stocks: Tech Giants, Cloud Titans, Chipmakers Battle For An Edge
Amid surging investor interest in artificial intelligence, many companies suddenly tout AI product roadmaps. But finding legit AI stocks that already garner revenue from generative AI, like Microsoft (MSFT) and Nvidia (NVDA), is a challenging endeavor for investors. For many companies — even Google-parent Alphabet (GOOGL) — the rise of generative AI poses both risk and opportunity.
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If you’re looking for the best AI stocks, it’s a good time to be cautious amid the hype. In general, look for AI stocks that use artificial intelligence to improve products or gain a strategic edge.
Until recently, machine learning was largely limited to predictive models that classified data to make predictions. The AI models focused on pattern recognition from existing data. Corporate spending on AI projects was modest as companies mulled return on investment.
AI Stocks: Investors Focus On Monetization
Boosted by buzz over generative AI, the Nasdaq composite has jumped 28% in 2023, though it pulled back recently. Microsoft is the biggest investor in OpenAI, the leader in generative AI.
But Amazon.com (AMZN) on Sept. 25 said it would invest up to $4 billion in Anthropic, a rival of OpenAI. Amazon will get a minority stake in Anthropic, which will use Amazon’s cloud computing services.
Generative AI models process “prompts,” such as internet search queries, that describe what a user wants to get. Generative AI technologies create text, images, video and computer programming code on their own. Industry-specific versions of generative AI are expected to use company data to train AI models.
The top artificial intelligence stocks to buy span chipmakers, software companies, cloud computing service providers and technology giants that utilize AI tools in many applications.
Monetization of artificial intelligence products is now the main issue for many AI stocks. Microsoft’s business AI assistant, Office 365 Copilot, will have general availability on Nov. 1, ahead of expectations.
However, many other software firms are still testing how to monetize AI products, including Salesforce (CRM), ServiceNow (NOW), Adobe (ADBE) and Workday (WDAY).
Artificial Intelligence Stocks
All AI software needs computing power to find patterns and make inferences from large quantities of data. So the race is on to build AI chips for data centers, self-driving cars, robotics, smartphones, drones and other devices.
Chipmaker Arm (ARM) launched its initial public offering on Sept. 14. Nvidia reported second-quarter results that smashed estimates while its outlook topped views.
Cloud computing giants Amazon, Microsoft and Google sell AI analytical services to business customers.
One key question for investors is whether tech industry incumbents will be the big generative AI winners. Or, will a new wave of AI startups eventually dominate?
Large language models provide the building blocks to develop applications. LLMs help AI systems understand the way that humans write and speak. Also, LLMs require training data for specific tasks. Companies with access to troves of data hold an edge.
OpenAI is part of a wave of LLM startups that includes AI21 Labs, Anthropic and Cohere. OpenAI reportedly is on track to generate more than $1 billion in revenue over the next year.
While “training” AI models is now the biggest market for chipmakers like Nvidia, the market will shift to “inferencing,” or running AI applications, in the long run.
AI technology uses computer algorithms. The software programs aim to mimic the human ability to learn, interpret patterns and make predictions. The newest forms of AI generate content.
AI Stocks: Chipmakers Target Data Center Market
Many companies are scrambling to launch generative AI pilot programs. But investors want artificial intelligence stocks to show progress in boosting revenue as customer interest translates into tangible demand.
Adobe on Sept. 13 announced the commercial availability of its Firefly generative AI tools. Price hikes related to integrating Firefly tools into cloud products take effect Nov. 1. But Adobe has delayed giving a preliminary fiscal 2024 outlook.
At its Dreamforce customer conference, Salesforce touted new generative AI initiatives. But the company didn’t hold an analyst day to discuss financial goals at the event. UBS models only a 1% revenue boost for CRM stock from generative AI in fiscal 2025, which starts in February.
Meanwhile, cybersecurity firm CrowdStrike Holding (CRWD) announced pricing for its “Charlotte” generative AI upgrade. It will cost $20 annually per endpoint — either a laptop or smartphone user.
Artificial Intelligence Stocks: Cloud Boom
OpenAI’s dominance faces a challenge from open-source LLMs. For example, Hugging Face is an open-source community that offers tools to enable users to build LLMs. Hugging Face recently raised $235 million in a Series D funding round. Investors included Google, Amazon, Nvidia, Intel (INTC), Qualcomm (QCOM), IBM (IBM) and Salesforce.
Meanwhile, chip maker Qualcomm plans to build Snapdragon chips that can process AI tasks directly on smartphones, without the aid of cloud-computing resources accessed via internet connections.
In addition, Microsoft continues to leverage its strategic stake in OpenAI as it aims to take on Google in internet search and office productivity tools. Microsoft introduced higher-than-expected pricing, at $30 monthly per user, for its “Copilot” AI software tools.
Also, Microsoft announced that as of mid-July the Azure OpenAI Service now had more than 9,500 customers, up from 2,500-plus in April.
—REAL ESTATE WORLD—
US office real estate prices headed for ‘severe crash,’ investors say
The commercial real estate market is headed for a severe collapse due in large part to sky-high interest rates and declining property values, according to a survey of investors.
Around two-thirds of those who responded to a Bloomberg News survey said they believe that the commercial real estate market will recover only after a crash.
When asked when they believe the price of office properties will hit bottom, 44% said they expect that to happen in the second half of next year while 22% said it will be in the first six months of 2024, according to Bloomberg News.
Just 6% of the 919 respondents said that prices would bottom out this year while 29% predicted that it would happen in 2025 or beyond.
The Fed has raised interest rates aggressively, which is increasing the cost of financing commercial properties at a time when there is also reduced need for them, which has hit rent levels.
Investors are bracing for a possible crisis triggered by default on $1.5 trillion in debt that is coming due by the end of 2025,.
Some $270 billion in commercial real estate loans held by banks are set to mature in 2023, according to Trepp.
Over the next four years, commercial real estate properties must pay off debt maturities that will peak at $550 billion in 2027, according to analysts at Morgan Stanley.
Earlier this month, a study released by economists from NYU Stern Business School, Columbia Business School and the National Bureau of Economic Research showed that vacancy rates are at 30-year highs in many American cities.
In New York City, the vacancy rate was 22.2% in Q1 of 2023.
Office buildings in New York City — the world’s largest commercial real estate market — have lost $76 billion in value from their most recent sales prices, according to broker JLL.
Blackstone and RXR sold the office building at 1330 Avenue of the Americas for $320 million — a third less than the listing price in 2006.
Real estate firm Cushman & Wakefield recently predicted that there could be 1 billion square feet of unused office space in the US by 2030.
The New York Fed said earlier this year that it was unclear when or if the commercial real estate sector would return to its prior strength.