After a rally that sent technology stocks to levels approaching the internet bubble, the air is coming out of the balloon.
Shares such as Facebook, Netflix, Tesla Motors, Priceline.com, Baidu and TripAdvisor are down more than 13 per cent since the Nasdaq 100 Index reached a 13-year high March 5.
Candy Crush may be wildly popular with users, but owner King Digital Entertainment's shares slumped 15 per cent on their first day on the Nasdaq this week.Credit: AFP
That's pushed the cost of options on the gauge to the highest level since 2008 relative to the Standard & Poor's 500 Index. The Nasdaq 100 has rallied 243 per cent in five years.
About $US80 billion has been erased from the value of the index this week as Facebook shareholders showed their displeasure over the purchase of Oculus VR and King Digital Entertainment, the maker of the smartphone game "Candy Crush" tumbled in its first two days of trading.
This week's drop in the Nasdaq 100 erased its 2014 gain and left the gauge poised for its first retreat in five quarters.
"Fast money was in these stocks, and I guess a lot of that money is coming out," said Donald Selkin, who helps manage about $US3 billion as chief market strategist at National Securities in New York. "The percentage decline on the Nasdaq has been much more severe. They've pumped up the puts because the downside pressure has been higher."
Stock valuations
Earlier this year, the equity gauge came within 21 per cent of its 2000 peak as investors scooped up shares of fast-growing companies. The Nasdaq 100 has seen its price-earnings ratio increase 45 per cent since the start of 2012 to 21, according to data compiled by Bloomberg. That's close to the highest multiple since 2010.
The index fell 0.6 per cent to 3,563.13 on Thursday, bringing the slump in March to 3.6 per cent. The Nasdaq 100 is considered a benchmark for technology stocks because its six biggest companies are Apple, Google, Microsoft, Amazon.com, Facebook and Qualcomm.
Some of the biggest declines have occurred in technology companies that sold shares to the public in the last few years. Facebook is down 11 per cent in March, while Yelp decreased 17 per cent, Twitter declined 16 per cent and Pandora Media dropped 20 per cent. The Dow Jones Internet Composite Index of 40 companies has lost 8.5 per cent this month.
'Egregious gains'
Investors concerned about deepening losses in computer and software makers are turning to options to protect the value of their holdings, according to Eric Metz, a derivatives strategist and fund manager at RiverNorth Capital Partners. The Chicago Board Options Exchange Volatility Index and the S&P 500 move in opposite directions about 80 per cent of the time.
"The demand for Nasdaq-oriented puts and the Nasdaq- affiliated VIX is a clean hedge for some of these sectors that have had such egregious gains over the last six to 12 months," Metz said. He helps manage over $US2 billion. "Buying VIX on the Nasdaq is a clean, concise way to protect some of those gains."
The Chicago Board Options Exchange NDX Volatility Index, which measures the cost of options on the Nasdaq 100, has climbed 6.6 per cent to 18.49 this week. The CBOE Volatility Index of S&P 500 contracts has dropped 2.5 per cent to 14.62.
On the Technology Select Sector SPDR Fund, the ratio of puts to calls is near the highest level in a year. There are 137 puts for every 100 calls on the Technology Select Sector SPDR Fund, compared with a ratio of 0.62-to-1 at the beginning of the month, according to data compiled by Bloomberg.
Premium stocks
Technology stocks are not in a bubble given the new ways of making money from increasing use of mobile devices, according to Jason Benowitz, a senior portfolio manager at Roosevelt Investment Group in New York. S&P 500 software companies will see earnings rise by 13 per cent, almost double the 7.3 per cent growth for the overall market, analysts' estimates compiled by Bloomberg show.
"Companies that can grow much faster than the economy or the S&P ought to maintain a premium," Benowitz, who helps oversee $US4.7 billion at Roosevelt Investment in New York, said in a phone interview. "I expect strong results, certainly from Facebook, which we own, and some of the other growth companies."
Even after the decline this week, Facebook shares are still up 12 per cent in 2014. Investors are paying up for surging profits at the operator of the world's biggest social network, pushing its price-to-earnings ratio to 103.
ETF flows
About $US770 million was withdrawn from technology exchange- traded funds during the five-day period ended March 27, the second-biggest outflow among 10 industries, data compiled by Bloomberg show. For the year, about $US631 million has been added to the ETFs.
Implied volatility, used to gauge the price of options, on the ETF tracking the Nasdaq 100 Index is 20.9 for three-month contracts with an exercise price 10 percent below the shares, according to data compiled by Bloomberg. The measure for calls is 13.64.
"Most of the volatility index difference for the past few days comes from Nasdaq underperformance of the S&P 500," Philippe Trouve, a VIX options trader and director for equity derivatives at Bank of America Corp. in New York, said yesterday in an interview. "There was reversal from overbought conditions."
Bloomberg