Drubbing in Tech Stocks Marks Biggest Rotation to Value Since ’95

(Bloomberg) -- After five years of waiting for technology shares' grip on the market to loosen, value investors are getting their hopes up at the start of 2022. 

Software and internet stocks sold off Tuesday, driving the Russell 1000 Growth Index down 1.1%. Meanwhile, energy and financial shares surged, leading gains among those trading at lower multiples based on profits or book value. 

The divergence was so wide that over the past two sessions, growth has trailed value by 1.5 percentage points. That's the worst underperformance for growth to start a year since 1995. 

This rotation came alongside a spike in Treasury yields on expectations that the Federal Reserve will raise interest rates this year to tame inflation. While the prospect of higher borrowing costs have prompted traders to rethink their affection for growth stocks -- particularly those fetching nose-bleed valuations -- rate hikes could signal an accelerating economy. This could be good for cyclical companies, many of which have been shunned. 

“You could argue some of this rotation is the result of the higher real and nominal yields,” said Alon Rosin, Oppenheimer & Co.'s head of institutional equity derivatives. “This rotation is long overdue with large-cap tech holding up into year end. Now we have multiple compression concerns across all tech with the Fed's liquidity spigot coming into the tightening drumbeat ahead.”

Tech stocks bore the brunt of selling Tuesday and the Nasdaq 100 dropped 1.4%, the most in more than two weeks. Expensive software makers tumbled more than 4% as a group, reaching a level not seen since last June. 

The ARK Innovation exchange-traded fund (ARKK), the poster-child of the frenzy over hyper-growth names, sank 4.4%, while a basket of profitless technology shares plunged 4.1%.  

Despite the bleeding in the market's largest industry, the S&P 500 stood firm, thanks to gains in economically sensitive shares. Energy producers and the KBW Bank Index each rallied more than 6% in the past two sessions, marking their best start for a year on record. 

To many investors, the rotation was a welcome development in a bull run where in a handful of tech giants have increasingly dominated equity gains, leaving the market vulnerable to company-specific risks. Broader participation is also good news for active money managers, whose gravitation toward value has contributed to years of lackluster performance when measured against their benchmarks. 

Granted, short value renaissances have tried to challenge growth's dominance in recent years, as in the first quarter of 2021 and the final months of 2018. Yet they all proved fleeting. 

Still, some value fans are optimistic. As the Fed turns hawkish, company fundamentals and valuations will really matter.

“Not many predictions for a blowout 2022, so many are allocating towards consistently profitable companies, and away from profitless,” said Larry Weiss, head of equity trading at Instinet LLC in New York. “It could be the value comeback we've been waiting for!”

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