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Special: What Interest Rate Hikes Mean for Your Tech Stocks

0 | By Strategic Tech Investor Staff

Normally after a rate hike, stocks could be expected to go down. In this most recent case, though, they did the opposite.

The day of the rate hike announcement, investors acted like it was business as usual. The NASDAQ closed the day 3.1% higher after Powell spoke and then the S&P 500 started 2% higher today.

Even global stock market started the day higher in Japan and China.

There are a few reasons why this is the case. First, these rate hikes have been “baked in,” that is to say, expected, for months now, and much of that expectation is already reflected in share prices. It’s also likely investors were reassured by Powell’s contention the Fed has everything under control, and his much more optimistic 2022 inflation forecast.

But still – it’s not smooth sailing right now, and this is what you need to keep in mind…

The Past Months Have Been Rough on Tech

Plenty of technology stocks have tumbled into a bear market this year in anticipation of higher interest rates. Just look at Cathie Wood’s ARKK Innovation ETF (ARKK), which is down roughly 36% this year, which is about where it was in mid-June, 2020

Of course, investors have known for months that Jerome Powell and the Federal Reserve have had interest rate hikes on the agenda. Tech stocks, while fantastic drivers of global and domestic economic growth, are particularly sensitive to interest rate swings, as they can sport high price-to-earnings ratios. Moreover, their discounted cash flow (DCF) metrics are vulnerable to inflation and higher rates, and borrowing is naturally much more expensive.

But, now we have some concrete certainty as to what these hikes will actually look like. Powell moved for an immediate 25-basis-point hike, and left the door open for as many as six more for the rest of 2022. This is a much better outcome than the 50-basis point rise the market was predicting only a few short weeks ago.

Powell also said inflation would remain elevated, but that we could end the year with it running around 4.3%, significantly lower than where we are now.

So, what does this mean for tech stocks? In a word, it’s all about cash.

Michael Robinson, Director of Technology Investing is focused on liquidity saying, “keep an eye on cash positions as decreased liquidity could slow spending on growth over the next year.”

The combination of slowing economic growth and rising interest rates should ultimately benefit companies like Apple Inc. (AAPL) or Microsoft Corp. (MSFT) that have lots of free cash flow and don’t necessarily need to worry about the cost to borrow should the need or desire arise. Meanwhile smaller companies that are earlier in their growth phase could face another run lower if they don’t have enough cash on the books.

Between interest rates and inflation, discretionary spending could also see a dip and now is the time to hyper-focus on companies that make tech people need or very much want (high demand).

Earlier this week, I spoke about the electric vehicle (EV) market benefiting from $5 billion in government spending and this is a perfect example. EVs are in high demand due to oil prices and government spending is a great catalyst pushing the industry forward.

While it is hard to know how tech stocks will react in the medium-term after the first rate hike, we will continue to monitor earnings and how major corporations are adjusting their spending.

Historically, stocks fall in the month after a rate hike. But, always remember: at the end of the first year of higher rates, they see solid gains.

In the previous four rate hike cycles – periods when the US Federal Reserve raised rates – the S&P 500 fell 4% in the first month but then finished 5% higher a year later.

As always, ignore the noise and think long term. Look to establish or build on positions in the stocks we’ve recommended over the past few months, like these.

Cheers and good investing,

The Strategic Tech Investor Team

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