A bad day for the Tech stocks

Underwhelming results from Tesla and Alphabet painted the equity markets in the red yesterday. The S&P500 experienced its worst selloff since December 2022 with a 2.30% drop. It tested its 50-DMA (near 5428) to the downside. Nasdaq 100 tumbled 3.65% and sank below its own 50-DMA. Tesla dived more than 12% on earnings miss and no fresh news on robotaxis, Google lost 5% on prospects of increased AI spending. Google’s capex spending will reach or exceed $24bn that will bring the total spending this year to almost $50bn - or around 84% more than the past five-year average according to the WSJ. The company CEO thinks that underinvesting is a bigger risk than overinvesting. But that narrative is no longer welcome among investors.

As such, the prospect of higher AI spending pause a problem even for the investors of the companies that will benefit from that spending. Nvidia saw its stock price dive 6.80%. Broadcom fell more than 7.50% as AMD sank 6% below its 200-DMA. This harsh market reaction to Google earnings – which were a beat by the way - hints that we are coming to a point in the AI rally where investors are increasingly impatient to see their massive spending turn into profits, while the big spenders continue to say that they should spend more before seeing the benefits. As such, Meta – which could also tell its investors that more spending is in store – also fell more than 5% yesterday. All in all, Roundhill’s Magnificent 7 ETF dropped more than 6% yesterday, slipped and closed below the 50-DMA. For the bears who were waiting in ambush, the time of correction may have come and could erase 10-15% from the S&P500 if the upcoming earnings can’t turn the wind.

Also, from a broader perspective, the fact that the Federal Reserve (Fed) cut expectations are rising is not positive for the Big Tech stocks as these behemoths were seen as a safe place to hide when the rates were high, and could see their advance wane due to a sector rotation. Therefore, a tech selloff combined with lower interest rates, is expected to boost appetite for small caps, and the dullest pockets of the market – like consumer staples, healthcare and utilities. But yesterday, the wining combo of tech outflows and lower yields couldn’t cheer up the Russell 2000 – which closed the day 2% lower.

Yet, note that the US yield curve got steeper yesterday, as the 2-year yield fell below 4.45% for the first time since February while the 10-year yield took the opposite direction and rose to 4.30%, narrowing the gap between the two to just 15bp – the smallest gap since October 2023. That’s a confirmation that investors see the Fed lowering its rates sooner and more rapidly than previously expected. The consensus is two – or maybe 3 – rate cuts this year, with the first one seen coming in September, but the odds for an earlier rate cut - next week - are on the rise since the former NY Fed head Bill Dudley called for lower rates preferable at next week’s meeting. Activity on Fed funds futures assess less than 7% probability for a hurried rate cut next week and because the Fed has no reason to rush to the exit in the absence of a reason to do so – like a bank stress or abnormally soft economic data – I think that we will still have to wait for September to see the Fed cut its rates for the first time this year.

In the FX

The fact that the Fed and the market is preparing to cut should keep the US dollar index under pressure, although the rising Fed cut bets also softens the dovish central bank expectations elsewhere and should limit the potential weakness of the greenback. The US dollar index fell below its 200-DMA yet yesterday. Due today, the latest US GDP update is expected to show that the US economy may have secured a 2% growth in the Q2, up from 1.4% printed earlier. And a relatively strong growth from the US could limit the US dollar’s losses, as economic woes rise elsewhere. The EURUSD extended losses to1.0825 after a set of weaker-than-expected PMI numbers from the eurozone fueled the expectation that the European Central Bank (ECB) won’t have a choice but to cut in September. The weakness in German economy, where the composite PMI sank unexpectedly into the contraction zone for the first time since April, and a further slowdown in French manufacturing stood out. Consequently, the rising dovish ECB expectations defy the rising dovish Fed expectations and could eventually prevent the EURUSD from making that move above the 1.10.

Speaking of rate cuts, the Bank of Canada (BoC) cut its policy rate by 25bp to 4.50% yesterday, as expected, and highlighted the downside risks fueling the BoC doves and sent the USDCAD past the 1.38 as predicted.

Elsewhere, the long yen trade is gaining momentum. The USDJPY fell to 152.23 due to rising bets on a Bank of Japan (BoJ) rate hike and the unwinding of carry positions. The major risk is that the BoJ might refuse to hike next week, causing the entire long yen trade to collapse. But that’s probably just a bad thought.