What happened to growth stocks?

As you are probably aware, overall market as measured by S&P 500 index has entered a correction territory, defined as a drop of at least 10% from its peak, and it is now down about 9% year to date. After this decline, applying traditional price to earnings valuation metric, the market trailing PE is 21.8, right in the middle of 5 and 10 year averages, while the forward PE of 19.2 is only slightly higher than 5 year average of 18.6. So the market appears to be reasonably valued.

Certain parts of the market fared considerably worse. Nasdaq, and in particular growth stocks have taken big hits this year. Stock prices of the companies that have benefited from changing customer habits due to the pandemic, such as e-commerce or “stay at home” businesses have actually reached their peak about one year ago, and have been in downtrend since then. In many cases, the declines have been quite severe, with prices cut 3-4 times. And those are not zero sales outfits of dot com era of 2000 – they have continued to grow revenues and are in much better financial position now. Even though growth rate will of course slow down, they are still expected to increase sales at least 30% for next several years. By traditional metrics, such as price to sales or price to earnings, they are considerably cheaper now than before the pandemic started.

Of course, a case can be made that growth stocks were overvalued one year ago. But the pendulum of investor sentiment swings between greed and fear and always overshoots in both directions. They certainly appear to be quite undervalued at the moment.

Swings like these are definitely not fun to experience. And that is how the market works. That is the price of admission on the way to generating huge market beating returns. But don’t take my word for it. Please read the following article from Motley Fool from six years ago. It is just as relevant now as it was then and I think will always be.

https://www.fool.com/investing/general/2016/02/09/the-agony-of-high-returns.aspx