Expensive Stocks are Expensive, Cheap Stocks are Cheap

The chasm between growth and value stocks is the largest it’s been since the dot-com bubble. Will value continue to underperform, or are we in for a rude awakening?

This week, a friend sent me an article with the headline ‘Zoom is Now Worth More Than the World’s 7 Biggest Airlines’. The airlines in question – picked based on 2019 revenue – include the 4 major U.S. carriers of Southwest (NYSE:LUV), United (NASDAQ:UAL), Delta (NYSE:DAL), and American (NASDAQ:AAL). 

Zoom (NASDAQ:ZM) is now a $49 billion company with revenue of $622 million last year. Southwest alone made $22 billion over the same time period. The comparison is a portrayal of how overvalued certain stocks have become, but of course, this is an extreme case to prove a point, right? Zoom’s market cap has skyrocketed in recent months as its user base has grown from 10 million in December 2019, to 300 million in April 2020. Meanwhile the airline industry is facing the biggest obstacle in its history. 

So let’s rewind to a time when bars were open, you didn’t have to resort to cutting your own hair, and everything was right with the world. On the 31st of January, Zoom had a market cap of $21.37 billion, while Southwest was worth $28.44 billion. Eric Yuan’s recently IPO’d video-conferencing company was worth 3 quarters that of a long-established airline which made 36 times more revenue. 

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What do investors want?

As much as we groan and gripe about the valuation of certain stocks, there is a reason they are so expensive: because people want to buy them. 

Much of the spotlight since this rally began at the end of March has been on the strength of Big Tech and its cannibalization of the major indexes. The FAAMG stocks of Facebook (NASDAQ:FB), Amazon (NASDAQ:AMZN), Apple (NASDAQ:AAPL), Microsoft (NASDAQ:MSFT), and Google (NASDAQ:GOOG) now make up more than one-fifth of the S&P 500 (NYSEARCA:VOO) and almost half of the Nasdaq 100 (NYSEARCA:QQQ), possessing huge influence over the market as a whole. With interest rates at record lows, investors have flocked to these stocks, which seem like a safe bet in times of uncertainty while also promising a growth story other safe havens have failed to provide. As such, they are becoming increasingly expensive, which is reflected in the indexes. The S&P 500 now has a price-to-earnings ratio of 20, the Nasdaq 100 26.7, but are these valuations justified?

The truth of the matter is that investors have always been willing to pay a premium for growth, and technology is now the vehicle for that. We’ve seen this with the recent all-time highs of stocks like Amazon, Facebook, Nvidia (NASDAQ:NVDA), and Shopify (NYSE:SHOP). Yes many stocks are overvalued right now, these four included, but what are the other options for investors? Should they look to industries that have been decimated by the global pandemic and face long roads to recovery, or go to defensive stocks which promise little if any growth, or maybe even treasury bonds which have underperformed the market for decades? 

While hedge fund managers may complain at the current value of the market, they are not talking about the entire market, they are talking about a certain number of promising stocks that have surpassed any reasonable type of valuation. I agree that the current valuations of these companies are unsustainable, but they will remain so until a viable alternative presents itself.

MyWallSt operates a full disclosure policy. MyWallSt staff currently hold long positions in companies mentioned above. Read our full disclosure policy here.