Trader Talk

Tech’s steep sell-off is a healthy sign

Key Points
  • Tech stocks have kept increasing this year like consumer staples.
  • The downtown is actually good for the market.
Microsoft CEO Satya Nadella delivers a keynote address during the 2014 Microsoft Build developer conference on April 2, 2014 in San Francisco, California.
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Finally! We got a little volatility as someone came forward to act like the adult in the room and say, "Uh, fellahs, exactly why are all these tech stocks going parabolic on us?"

But — for the moment — it does not appear to be the start of an overall market correction.

Goldman Sachs, in a note this morning, made a simple but important point: the big tech movers recently — Facebook, Amazon, Apple, Microsoft, and Alphabet — are cyclical growth stocks. That implies they usually are more volatile than the rest of the market. But traders have treated these stocks as if they were Consumer Staples, which are traditionally low volatility stocks. That's not a good way to look at them, and Goldman cautions that looking at these stocks as stable, boring Consumer Staple-type stocks "could draw incremental flow into the stocks but can just as easily reverse."

And they are right: that's exactly what happened today. It's an important reminder, and I think the note was a factor in today's weakness. I mean, Amazon was up 30% this year, practically in a straight line. Apple was up more than 30% this year. Microsoft was up 12%, also in a straight line. Huh?

Same with some of the big semiconductor names, like NVIDIA and Advanced Micro, which were up roughly 16% and 20% respectively just for the week this morning.

What's it mean? It means what it always means on Wall Street: when you have stocks that go parabolic it attracts a huge amount of leverage from momentum players. That begets a further rally, though much of it is unrelated to fundamentals. It's just guys piling in. Then something fundamental happens--the mildest of earnings or guidance disappointments, or someone with influence writes something that says this doesn't make much sense (thank you, Goldman), and you get a selloff that accelerates.

Why? Because the momentum guys just want to protect their short-term profits. Look at NVIDIA: up 16% for the week going into the open, it shoots up again, then suddenly around 11 AM it drops below the close yesterday. What happens? Volume suddenly accelerates and the stock goes into a free fall. It's momentum guys protecting the profits they have made in the last few days.

Is this cause for concern? For the moment, no. It's a relief. There are some signs traders are taking the money from selling these select tech names and buying less-loved sectors. You can see this in banks, where the Bank ETF (KBE) is up 2.5% on three times normal volume, and in energy, where energy ETFs (like XOP and XLE) are also seeing heavy volume.

That would be a healthy rotation. Using overbought tech stocks as a source of funds to buy under-owned bank and energy names. What a concept.

My take on today's action: This is not yet the start of an overall market correction.