Technology stocks lead market lower on profit-taking

While some might consider value investing a mechanical tool for identifying bargains, it is actually a comprehensive investment philosophy that emphasizes the need to perform in-depth fundamental analysis, pursue long-term investment results, limit risk and resist crowd psychology. – Seth Klarman

The bad news outweighed the good news last week and, as a result, all three major stock averages closed modestly lower. The Nasdaq Composite Index was the biggest loser with a loss of 1.3% as investors took profits in the high-flying technology sector, which has been the best-performing sector of the market this year. For the most part, second quarter earnings continue to be better than expected but expectations in the technology sector may have risen to unattainable levels. Last week IBM, Texas Instruments, Microsoft and Tesla all handily beat analysts’ estimates but the latter two companies succumbed to profit-taking as investors expected more and realized that their stock prices had gone too far, too fast. There was also positive news last week in the quest to find a vaccine for Covid-19 as AstraZeneca and the University of Oxford said their Phase One clinical trial data for their vaccine candidate showed promising results. But, unfortunately, a vaccine for the coronavirus can’t come soon enough as the number of deaths passed 145,000 and the number of confirmed cases continued to surge in some states. Reopening of businesses was delayed and lockdowns were enforced across the country as hope for a V-shaped economic recovery began to fade. Weekly jobless claims rose to 1.416 million, higher than expected, and marked the 18th straight week that claims have totaled more than 1 million. Unemployment relief from the government ends on July 31st and lawmakers in Washington have begun negotiations on new stimulus measures but remain divided on the size and scope of the new plan with consensus being in the $1 to $2 trillion range. Rising tensions with China also surfaced last week as the United States closed a Chinese consulate in Houston due to claims of spying and China returned the favor by closing a U.S. consulate there. Although there is growing optimism about potential coronavirus vaccines and therapeutics and ongoing monetary and fiscal stimulus, the uncertainty with regard to the economic recovery and future corporate earnings is likely to result in a choppy market over the near-term.

Last Week

New U.S. home sales in June surged at the highest rate since 2007 and were much better than expected as low mortgage rates fueled the buying spree. Existing home sales in June were also strong and were better than in May but less than a year ago as fewer homes were available for sale. Leading economic indicators in June rose modestly but at a slower pace than in May as the economy continues to reopen.

For the week, the Dow Jones Industrial Average fell 0.8% to close at 26,469 while the S&P 500 Index lost 0.3% to close at 3,215. The Nasdaq Composite Index declined 1.3% to close at 10,363.

This Week

The preliminary estimate for second quarter gross domestic product (GDP) is forecast to be a decline of 33% after a drop of 5% in the first quarter as the economy was forced to shut down to combat the coronavirus. Durable goods orders in June are expected to be strong but not nearly as strong as the nearly 16% increase in May. Both the July consumer confidence index and the final University of Michigan consumer sentiment index are expected to be higher than in June as people feel more optimistic about the economy.

The Federal Open Market Committee (FOMC) meets and is expected to keep interest rates near zero for the foreseeable future.

Among the most notable companies scheduled to report second quarter earnings results are 3M, Raytheon, Boeing, GE, Ford Motor, Caterpillar, Amgen, Pfizer, Eli Lilly, Merck, Facebook, Qualcomm, Alphabet (Google), Amazon, Apple, McDonald’s, Starbucks, Procter & Gamble, Visa, United Parcel Service, Comcast, Chevron and Exxon Mobil.

Portfolio Strategy

This will likely be an important week for the markets for a number of reasons, not the least of which are some key quarterly earnings reports from a few technology bellwethers. Apple, Amazon and Facebook, three tech titans that have contributed a lot to the market’s rebound this year, are on the agenda and their results will have to justify their lofty stock valuations. This is also the busiest week of the earnings season with a number of prominent companies scheduled to report from a wide range of industry sectors. So far about 80% of companies that have reported earnings have beaten analysts’ estimates. The first reading of second quarter gross domestic product (GDP) will also be released and economists forecast a decline of about 35%. While this drop is not a surprise due to the deliberate shutdown of the economy, the sheer magnitude of the decline could rattle investors. Economic growth should rebound in the third quarter, but it will depend on the size of additional stimulus measures passed by Congress as well as success in controlling the coronavirus. Most observers predict that the new stimulus package will be between $1 trillion and $2 trillion but it will not happen before unemployment benefits expire at the end of the month. Finally, the Federal Open Market Committee (FOMC) meets this week to review its monetary policy and its own stimulus measures to help support the economy. It is widely believed that interest rates will remain near zero and that the Fed will reiterate that it will do whatever it takes to bolster the economy without actually specifying any new programs.