Stocks are down big in 2022. We all know that. But do you know why they’re down big?
After all, the economy is on solid footing. The job market is strong. Consumer spending is robust. Earnings growth looks good. Covid-19 is trending toward containment. Supply chain issues seem to be improving. Debt levels are manageable.
So, again, I’ll pose the question: Why is the stock market down big in 2022?
The answer is relatively simple. The 2022 stock market selloff is all about valuation.
Long story short, after the Covid-19 pandemic emerged in early 2020, the U.S. government and Federal Reserve threw everything but the kitchen sink at the economy to help keep it alive. That included cutting interest rates to zero, initiating a massive bond-buying program and pumping out bundles of fiscal stimulus to name a few.
Against the backdrop of all that excess liquidity, stock market valuations soared. The forward price-to-earnings multiple on the S&P 500 has averaged about 17X over the past five years and was hovering around 18X in December 2019. Coming into 2022, the S&P 500 was trading at 21X forward earnings — a 17% premium to its historically normal levels.
In 2022, however, all that excess liquidity is going to exit the markets. The Fed is going to hike interest rates and stop buying bonds, and the U.S. government has already phased out stimulus checks. We are, in many regards, returning to the same economic conditions that presided in 2019.
At that time, stocks were trading at 18X forward earnings. Today they’re still trading at 20X. Therefore, as Covid-induced quantitative easing dwindles, stock multiples have further to fall this year to make historical sense.
That, in a nutshell, is why stocks are dropping big in 2022. Too much free money caused inflated valuations in 2020-21. And now that all that is exiting the market, stock valuations need to reset lower.
Simple enough, right?
Buy the Dip
Of course, the investment implication is that this dip is a buying opportunity. Stock market fundamentals are rock-solid. We’re just going through a minor valuation reset today. Once that reset is over, stocks will power higher. Buy the dip.
But the nuance there is that you should only buy the dip in stocks that have already undergone a valuation reset. In other words, if you want to make a lot of money in the market over the next few months, you need to buy stocks that are trading at or below their pre-pandemic valuations today. Otherwise, you’ll risk continuing to lose money amid the broader market reset.
So which stocks make the cut? Based on valuations, what are the best stocks to buy today?
Trashed Twenty Tech Stocks
To answer that question, I compiled a basket of 20 high-growth tech stocks — which I’m calling the “Trashed Twenty.” These stocks have tremendous long-term growth prospects and are supported by robust fundamentals. But they’ve been so crushed recently that they now trade at a lower valuation than where they traded pre-pandemic.
The average price-to-sales multiple across these top-20 tech stocks is just 8.5X today. In early February 2020, it was 13X.
Of course, that makes absolutely no sense because back in early 2020:
- Treasury yields were higher
- Interest rates were higher
- Technological transformation was progressing more slowly
- Many of these companies were operating at lower profit margins
In other words, if anything, these 20 tech stocks should be trading at bigger sales multiples today versus early 2020. Yet, the opposite is true. And to me, that screams “BUYING OPPORTUNITY.”
That’s why I told readers of my flagship investment research advisory Innovation Investor all about these top-20 tech stocks just a few days ago. I detailed their names and ticker symbols and illustrated why I think many of them could absolutely soar over the next few months.
If you’re looking to buy the dip in tech stocks — which you should be looking to do — I’d start with these “Trashed Twenty.”
To find out more about them — and get my top stock pick of the 2020s for free — click here.
