The growth stock sell-off that began in 2021 has broadened out in 2022. At first, the sell-off was only affecting the most frothiest and speculative stocks. And, many of the higher-quality names seemed like they would be immune to the selloff.
In fact, the growth sell-off has had 2 distinct phases:
January 2021 to May 2021
There were 2 major catalysts for this selloff. The first is that interest rates started to rise with increasing optimism about the efficacy of vaccines which sent interest rates higher, leading to profit-taking in growth names. Remember that accelerating economic growth and higher rates are bearish for this category of stocks, because it means that investors have to re-evaluate the attractiveness of the long-term cash flows that growth stocks are priced upon.
Notably, the first names that were hit hard were the stocks that were most egregiously overpriced. Growth stocks, for the most part, topped out between January and February and then trended lower into May. And in May is where we started to see some differentiation between high-quality growth stocks and lower-quality ones.
High-quality growth names like Tesla
November 2021 to now
This brings us to the second phase of the growth stock sell-off. ARKK has fallen 40% from its early-November highs. Equally important, even the high-quality growth stocks have also declined by significant amounts. For instance, Tesla and Cloudflare are down by 26% and 63%, respectively.
This selloff was triggered by the Federal Reserve's shift to a more hawkish stance as inflation remains stubbornly high, and the Fed feels like it has achieved its goals regarding employment. The evidence points to a steeper than normal rate hike cycle given that previous rate hikes have typically started at lower levels of inflation and higher levels of unemployment.
Obviously, growth stocks would be the most affected by such a development and are reacting accordingly. For investors, the opportunity to sell or short has passed. Instead, they should be focused on high-quality growth stocks that should be bought on weakness as we know that some portion will go on to make new highs.