Apple Is Now at the Opposite End of the Value Spectrum From Nvidia, Meta
How to trade the Magnificent Seven names as the market action turns nervous.
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Market action was nervous on Wednesday morning as investors await the Federal Reserve's interest rate announcement and major earnings reports. There is steady selling after a positive open, with only about 38% of stocks in positive territory.
The Nasdaq 100 (QQQ) is still in positive territory due to strength in storage and chip stocks, including Seagate Technology (STX) and Intel (INTC) . The S&P 500 and DJIA are close to flat, while the Russell 2000 (IWM) is lagging for the fourth day in a row.
The Valuation Disconnect
The main focus on earnings will be the Magnificent Seven. I have often struggled with embracing these big-cap technology names before I finally realized that they are not valued like most other stocks. These names always seem expensive but it simply does not matter.
For most stocks, the key valuation metric is the PE ratio compared to the growth rate. A low P/E to growth suggests that a stock is cheap and vice versa. However that does not seem to matter much for the Magnificent Seven names.
Apple (AAPL) , for example, has a PE ratio in the mid-30s versus growth of around 10% — giving it a PE/G of around 3. That is a significant premium compared to most stocks but investors are willing to pay for the consistency of performance, perceived safety and the endless buyback of shares. As long as Apple continues to beat guidance and raise estimates it will likely trend higher regardless of its valuation and PEG ratio.
The Value vs. Premium Spectrum
At the other end of the spectrum are Nvidia (NVDA) and Meta (META) . Both stocks have growth that is roughly in line with their PE ratio. NVIDIA has consistently traded under a PEG of 1, while Meta is slightly above.
The main reason that these two stocks have lower PEG ratios is that they do not have the long-term consistency of earnings that Apple has. They have had much more volatility in their growth, and there is more concern about the cyclical nature of some of their businesses.
Tesla (TSLA) has a premium valuation, like Apple, mainly because of the high level of optimism about its growth prospects in other areas which aren’t in the published estimates.
Amazon (AMZN) , Alphabet (GOOGL) and Microsoft (MSFT) are in the middle ground, with PE ratios between 1 and 2. Their EPS growth is about half of their PEs, versus Apple where the PE is three times growth.
Trading the Earnings Reaction
The key point is that these valuation metrics do not move the stocks when they report earnings. What moves them is beating expectations and positive guidance. It does not matter if they are cheap or expensive.
The cheaper names, like Nvidia and Amazon, are more likely to find strong dip buying on negative reactions while the more expensive names like Apple and Microsoft have very little room for error and will sell off hard if they disappoint.
My Current Positioning
There was some poor action on my screens on Wednesday morning, particularly in biotechnology. I am viewing pullbacks as opportunities but will wait for major news events. Volatility like this can be unpleasant but I do not view it as indicative of a major shift in market trend.
At the time of publication, DePorre was long AMZN, GOOGL and NVDA.
