Sell-off in risky tech stocks feels a lot like the 2000 bubble and may not be over yet

Published Mon, Dec 6 20213:19 PM ESTUpdated Mon, Dec 6 20214:07 PM EST

Patti Domm @in/patti-domm-9224884/@pattidomm

Stocks are bouncing back after the carnage in the riskiest names, but some strategists warn the selling in the once high-fliers and meme names could return. Just like in 1999, some of the more frothy names surged before cratering with the entire Nasdaq in the year 2000 and beyond. But what's different is the selling, for now, may stay centered in the risky stocks. By their nature, the riskiest names in the market with the highest price-to-earnings ratios are the ones most hurt in a rising rate environment. Investors in those stocks are betting they will pay off way in the future, and the signals from Federal Reserve officials are that rate hikes could come sooner rather than later. Dennis Debusschere, founder of 22V Research, warns there could be more selling ahead, but he's not predicting a bust like the one in tech that took down the entire market in 2000. "Bottom line, stay away from extremely price volatility and earning turbulence stocks as the Fed tightens. We are comfortable making the call that ARKK/Meme stocks moving lower will not be a large issue for the overall market as long as credit spreads don't move wider and correlations remain low," he noted. The Ark Innovation ETF , ARKK has been a poster child for the carnage in smaller, risky tech and other growth names. E very stock but one held by the ETF has fallen into bear market territory a nd some are down as much as 70% or 80% from their highs. The ETF was up 1.5% Monday after losing nearly 12.7% last week, and it is down about 23% over the past month. ARKK closed at $94.95, well below its 52-week high of $159.70. Debusschere said investors have to look closely at other holdings. IGV, the iSharess Expanded Tech-Software Sector ETF , or IGV, has also sold off over the last month and it held some of the frothy names. DocuSign, a stock also held in the Ark Innovation fund, is among its holdings but the IGV ETF's top positions include Microsoft , Adobe , Intuit and Oracle. DocuSign was pummeled after reporting earnings results last week, dropping from $233.82 Dec. 2 to close at $147.17 Dec. 3. The stock was already off its 52-week high of $314.76. "Investors need to separate out many ARKK names and other meme stocks from IGV (software). The former is likely going through a post 1999 type of event," wrote DeBusschere. "The latter (IGV) is not and will be fine when credit settles down." Jack Ablin, chief investment officer at Cresset, said theme investing has a place, but he views investments like those in the ARKK ETF as a longer term holding. Other ARKK holdings include CRISPR Therapeutics, Robinhood , Zoom Video, DraftKings, and Tesla , to name a few. "There's a place for that. It's our 15-year bucket," he said. Longer term, those types of investments could pay off, and some ultimately did after 1999. "If you bought the internet theme in 1999 like a Johnny-come-lately, a year and half later you would have suffered an 85% drawdown," said Ablin. "If you held on for 13 more years, you would have made 300%. Picking the worst absolute time to invest in the internet, you still would have made 300%." Steve Massocca, managing director at Wedbush Securities, said the selling could continue in the risky part of the market, and the safer names in tech are big cap, like the companies found among the FANG names and Apple. "The fact of the matter is you're investing in companies that are ridiculously overpriced. They're fast growing, they're the wave of the future. I can see paying 30 times earnings for something like that, but not 300 times. You're depending on the greater fool," he said. He said the difference between the big cap and small cap names is telling. "From Nov. 8 to today, which is about a month, we've had a 12% correction in the Russell 2000. Compare that to the S & P, the S & P was significantly less. It wasn't even 5%," he said. Massocca said he expects some of the activity was exaggerated by tax loss selling, with investors selling losers to help offset gains in some of their winners. He expects that activity to wind down. Of course, there are companies that could also pay off big time in the future and are the Amazon equivalents of the tech bubble. Pets.com is the company of the tech bubble era perhaps most lambasted, with its sock puppet mascot. "What was sock puppets is now meme stocks. The fact of the matter is one of the big blow-ups was someone delivering pet products for people who could buy online. Fast forward - Chewy ," he said, noting the current success of the online pet product retailer 20 years later. Sam Stovall, chief investment strategist at CFRA, said in 1999, the stock market bubbled up, just as the Fed started raising interest rates. The Fed started hiking in June, and between June and the end of the year the market rose. "It skyrocketed," he said. The Nasdaq 100 gained 61% by year end. But then in March, 2000, it began a downhill slide. By June 30, the Nasdaq 100 was up just 1.5% for the year 2000, but by Dec. 31, it was down 36.8%, he added. Stovall said the risky area in the market could be in for a better period as it moves into the seasonally positive year-end, but may be hit again next year. "A lot of the stock that are doing very very well now that had large enough market caps, they're not trading on fumes. Not like that sock animal," he said. Stovall said one concern is that the stock market is not pricing in higher interest rates. He said when the 10-year is close to a yield of 2%, the price-to-earnings ratio has been about an average 20% lower than where it is now. The 10-year was at 1.43% Monday, but bond strategists have been expecting it to move closer to 2%.

Traders work on the floor of the New York Stock Exchange on Nov. 5, 2021.

Spencer Platt | Getty Images

Stocks are bouncing back after the carnage in the riskiest names, but some strategists warn the selling in the once high-fliers and meme names could return.