Stocks have cycles, and tech stocks are no exception. In a research report on May 12, Morgan Stanley said that Asia-Pacific technology stocks are in a cycle retracement phase starting in the fourth quarter of 2021. Looking ahead, Morgan Stanley believes that there is still room for downside for Asia-Pacific technology stocks in the second half of the year, and if the Fed continues to aggressively raise interest rates, the recession is expected to advance.

The pullback cycle in 2022 is even worse

As can be seen from the chart below, MSCI Asia Tech (MSCI Asia Technology Index) in 2022 is taking a similar cycle script as in 2018, but it has a completely different external macro environment. Morgan Stanley said:

The current retracement in 2022 is likely to be worse than in 2018 , mainly due to the exit of Fed put options .

In addition, the current downtrend may be directly proportional to the excessive rise generated by the new crown epidemic bubble.

Morgan Stanley concluded that the reason this retracement may be worse than previous cycles is because:

1. The monetary easing cycle is over (the Fed put option has been withdrawn);

2. The growth of technology demand led by the new crown epidemic has returned to normal;

3. Technology cycle risk;

4. There may be a more severe situation, namely an economic recession.

In addition, Morgan Stanley stock analyst Shawn Kim also pointed out the law of cycles for investors in the research report:

After reaching the cycle peak, the stock price no longer has positive feedback on good news, and the valuation multiple will show a decline.

And once the market bottoms out, the opposite is true, with stock prices no longer falling on bad news and valuation multiples rising.

These usually manifest as overreactions in both directions.

The data in the chart below shows that the price-earnings ratio peaked in February this year, reaching 21.5 times, and has now fallen to 13 times below the pre-epidemic level, while the price-earnings ratio under the pessimistic scenario is 10 times. Therefore, Morgan Stanley believes that valuations have normalized, but earnings have not returned to normal.

The market is not panicking yet, which is usually what happens before the market completely crashes, and we don’t think the market is there yet.

Sharp rallies in bear markets and contrarian rallies led by short covering are common, but in persistent trend weakness, all of which are only part of the cycle’s retracement phase.

Risks for Asia Pacific Tech Stocks

Currently, Asia-Pacific stock markets are facing a challenging market environment. For example: persistently high inflation, aggressive interest rate hikes by major central banks around the world, especially the Federal Reserve, the impact of the Russian-Ukrainian conflict on supply chains, and the pressure on consumer spending caused by a new round of outbreaks around the world.

As such, Morgan Stanley sees the risk for Asia-Pacific tech stocks as a potential negative feedback effect that could derail tech companies’ earnings growth as equity markets become more sluggish, leading to budget reassessments, followed by layoffs, and ultimately a slowdown in consumption and Earnings slowed.

Looking forward to the trend of Asia-Pacific technology stocks in the second half of the year, Shawn Kim believes that there is still downside. He stated:

Recession risk expectations are for 2023 and not the next few quarters, but if tight financial conditions (equities falling, interest rates rising, dollar rising to 20-year highs) persist, a recession scenario could become a few quarters later Reality.

If earnings fall by 5-10%, the valuation will be set at 10-13 times, which is more reasonable in times of market pullback.

Shawn Kim said that in the overall downturn in the market environment, relatively not so bad is good. He pointed out:

Tech stocks had a solid first-quarter earnings performance for many companies, but guidance hit tech stocks in a number of ways.

Share price is a reflection of earnings and valuation working together, and EPS is unlikely to be a positive offset to share price in the second half of the year and into 2023.

Editor/Annie

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