The guest commentary below was written by Jesse Felder of The Felder Report.
The flows into tech funds of late have been absolutely astounding if not totally surprising. The FAANNG stocks have been the market darlings for quite some time now so it’s understandable investors would chase this performance just as they do during every bull market. Still, the recent torrid pace of money chasing the momentum in tech is remarkable.
However, it’s important to note that it’s not just tech-focused funds overweighting the FAANNG stocks. There is a huge number of non-tech-focused funds that own these stocks, as well, and in a significant way further supporting their popularity in the marketplace. You can find them represented in size today in everything from consumer discretionary, retail, media and entertainment to momentum, cloud computing, internet and social media. In fact, without Amazon and Netflix, the consumer discretionary sector would be down on the year rather than up.
What’s more, in many cases, the ownership of these companies in many funds appear to be clear violations of their implicit if not explicit mandates. To demonstrate, let’s just run through the FAANNG stocks by market cap beginning with the biggest: Apple. There are fully 92 ETFs, according to ETFdb.com, that not only own the stock but also have an overweight (relative to the S&P 500) allocation to the shares. So not only are Apple fans and traditional passive investors buying tons of Apple stock, these other ETF investors are even more aggressively acquiring shares.
What I found notable in this case was that Apple was found in both value and growth-focused ETFs. I guess this isn’t really much of a stretch theoretically. A high-growth stock can become cheap just like any other. What is strange in Apple’s case, though, is that the stock now trades at its highest price-to-free cash flow in years. At the same time, the company’s 5-year average revenue growth is now the lowest in its history. Still, these systematic funds somehow find reason to not just own it but to overweight it as both a value stock and as a growth stock.
Next we have Google. Here we have over 100 different ETFs that see fit to overweight the stock in their portfolios. Included in this group is at least one “low volatility” ETF. According to Yahoo!Finance Google shares have a beta of 1.31 currently meaning they are 31% more volatile than the broad stock market. Yet this fund somehow sees fit to classify it as a “low volatility” stock. Alrighty then.
Turning to Amazon, again we have over 100 different ETFs that have overweighted the stock. Included in these are several funds that purport to only invest in “best employers” or companies that demonstrate “employment equality.” This is certainly ironic considering this company has become the poster child for income disparity. Jeff Bezos is the now the richest man in the world with some of the lowest paid employees in the country and yet these ETFs somehow justify owning it and in greater size than the index.
Facebook also benefits by roughly 100 ETFs that have somehow tweaked their algorithms such that they can overweight the shares. One such fund claims to invest only in companies with a positive ESG (environmental, social and governance) impact. As for the “E” there’s not much I can say but when you are charged with fomenting violence and even death in places like Myanmar and others around the world and you have also become the poster child for some of the worst governance practices in corporate America it’s hard to see how these can fit within a “positive ESG impact” framework.
Netflix has a very curious holder of its own among the more than 100 ETFs that choose to overweight the shares. The stock currently pays no dividend and, to the best of my knowledge, never has. It might be difficult for the company to do so while it sustains losses in terms of free cash flow into the billions of dollars per year. Still, one “dividend advantage” fund not only owns Netflix shares but also in a size that is triple the index weighting.
Finally, Nvidia can be found as an overweight position in fully 140 different ETFs. By this measure it wins the popularity prize even if it isn’t an original FANG stock. One of these funds carries “ecological strategy” in its title. I assume it seeks to invest only in companies that meet some ecological test yet Nvidia chips have powered the Bitcoin mining boom, perhaps the single greatest waste of energy in human history. It’s very hard to call cryptocurrency or anything associated with it ecologically friendly. Still, this fund sees the core of the cryptocurrency mining mania as supporting a sound ecological strategy.
The point of all of this is simply to demonstrate the absurd extremes of the current mania in the stock market. The only way to explain any of it is to chalk it up to shameless performance chasing. Own these stocks in your ETF or suffer outflows that put its existence in jeopardy. Offer a dividend or a socially conscious or low volatility fund that beats the market via oversized FAANNG weightings and watch the inflows make you rich.
It’s the very same sort of insatiable greed on the part of Wall Street serving the insatiable greed on the part of investors that has driven every speculative mania throughout history. Only this time it comes in a brand new, shiny wrapper that people can use to call themselves “passive investors.”
EDITOR'S NOTE
This is a Hedgeye Guest Contributor piece written by Jesse Felder and reposted from The Felder Report blog. Felder has been managing money for over 20 years. He began his professional career at Bear, Stearns & Co. and later co-founded a multi-billion-dollar hedge fund firm headquartered in Santa Monica, California. Today he lives in Bend, Oregon and publishes The Felder Report. This piece does not necessarily reflect the opinion of Hedgeye.
