What’s Behind This Morning’s Drop? Not What The Talking Heads Are Claiming

As of 11:30 a.m. New York time this morning, the Standard & Poor’s 500 Stock index was down 1.15%. The Dow Jones Industrial Average was off 1.02%. And the technology heavy NASDAQ was lower by 1.84%.

Much of the talk this morning has centered on news from Facebook (FB) and Apple (AAPL) this weekend as the reason for the drop.

Facebook is down big this morning with a 6.75% decline and Apple is off 1.35%. And there certainly was big news from the two companies over the weekend. Facebook announced that Cambridge Analytica, a data mining firm that worked for the Trump campaign, had used data from 50 million Facebook users to create profiles of prospective voters. The data was used, Facebook says, without permission. Add this to all the other negative news that points to Facebook’s inability to protect and control its own data and you can certainly understand the plunge in shares today.

Over the weekend Apple announced that a “secret” facility has been working on a new kind of screen technology that would provide a superior visual experience to even the newest OLED screens. That’s being touted this morning as another reason for the tech sell off.

Let’s take a step back, using the Apple news, to look at why the argument that news from Facebook and Apple is behind today’s sell off is misleading. First, Apple’s acknowledgment of work on the new technology points out that this won’t be ready for the market for three to five years–if ever. That’s a long time out to produce a drop in stocks today. Second, I can understand why the Apple news might have hurt shares of smartphone suppliers, especially smartphone suppliers that make products used in screens. So it’s logical to me why Synaptics (SYNA) is down 3.65% this morning or Skyworks (SWKS) is off 1.91%. But why would the news that Apple is at work on a new superior screen technology hurt Apple shares? Isn’t this a potentially good thing for Apple?

I think the Facebook and Apple news is really just an excuse for selling that is based more on cash flow, stretched valuations, and uncertainty over the Wednesday meeting of the Federal Reserve’s Open Market Committee. We’ve seen a huge wave of money flow into technology shares this year–$9.8 billion has flowed into the sector since December and $3.3 billion went into the PowerShares QQQ Trust, the biggest NASDAQ ETF, just in the past week. And why not? Before today’s drop, the sector had been up 10% for 2018 to date.

But all that cash has pushed prices up to levels that make some investors and traders nervous. I’d expect to see some profit taking at these levels. Amazon (AMZN), for example, was up 34.39% as of the Friday close–for 2018 to date. Netflix (NFLX) had gained 65.89% year to date. Nvidia (NVDA) was ahead 29.45%.

Think about it this way: The consensus target price for Amazon is $1670, according to Yahoo Finance calculations. That’s 100 points or so above the Friday close at $1571. The next decent support for the stock on the downside, however, is near $1000.  So that $100 potential upside and almost $600 of potential downside.

Anything that increased nervousness would prompt some selling.

The weekend news certainly qualifies as news that might prompt selling to protect profits, but this week has long been circled on calendars as one that will create uncertainty and where reducing riskier positions might be a smart move.

That’s because Wall Street is worried that Wednesday will bring some language from the Federal Reserve that indicates the U.S. central bank is leaning toward a more aggressive schedule for raising interest rates than Wall Street had expected just a month or two ago. The odds for an interest rate increase on Wednesday have long been locked in and Wall Street would be shocked if the Fed doesn’t raise rates. But opinion among Wall Street analysts and economists still includes a substantial percentage looking for only two interest rate increases in 2018 and an even bigger number counting on three increases. The worry going into Wednesday’s meeting is that Fed either in the words of its post-meeting press conference or in the “dot plots” that summarize sentiment at the Fed will indicate that the odds of four rate increases in 2018 have climbed higher. That would be negative news for stocks in general, and especially for higher risk stocks in general.

If I’m right about the cause of the selling today, I’d expect to see the downturn extend its scope from technology stocks today to other parts of the market in the lead up to Wednesday’s Fed meeting.

Full disclosure: I own shares of Amazon, Facebook, and Nvidia in my personal portfolios