Napoleon (and later Churchill) argued that “history is always written by the victors.” The ultimate narrative becomes an agreed upon fable. There are countless examples of this in markets and elsewhere. After all, it’s much easier to look backwards than it is to predict the future.
Six months ago, the Nasdaq-100® Index (NDX) was making new lows and economic pessimism was pervasive. We can now trace the market’s rebound following an unprecedented rate hike trajectory. We have the benefit of hindsight and recognize that markets are constantly forward looking. Late last year, most Wall Street analysts forecasted the first negative year-over-year forecast in decades.
Those same analysts have mostly updated their expectations for 2023, which is another example of history’s revisions.
Relationships
At the end of June, the Nasdaq-100 settled just 8.3% below all-time highs. The NDX advanced nearly 40% in the first half of the year. If you’re drawn to statistics, particularly the relationship between NDX and S&P 500 performance, Portfolio Labs has a tremendous amount of useful data.
Another ratio of interest moved dramatically in 2023. The NDX level continued higher during the first half of the year; however, trailing earnings did not grow at the same rate. As a result, the current NDX price-to-earning (P/E) relationship is stretched by historical standards.
The chart below tracks multiple relationships. The visual plots the rolling six-month change for the NDX P/E ratio. In other words, the change of a ratio. Let’s understand where we are and what shifted.
- NDX price moved up dramatically
- NDX trailing earnings moved slightly lower
- The ratio between the two shifted much higher during the first half of the year
The current NDX P/E ratio is 31.15 as calculated by the Wall Street Journal. Given a Q2 closing value of 15,179.20 we can solve for the trailing earnings ($487.29). At the close of 2022, the NDX P/E ratio fell to ~21. Given an index level (12/30/2022) of 10,939.76 we can solve for trailing earnings ($520.94). The NDX P/E ratio moved from ~21 to ~31.15 (+48.3%).
It’s important to keep in mind that the denominator in the P/E ratio (earnings) is backwards looking. Late last year, companies (particularly mega-cap tech) were struggling with inflationary pressures (wages) related to headcount bloat. Thus far, the market believes they have navigated the compression well. This is an example of how unique today’s NDX is compared to the early-aughts (or even that of 15 years ago).
The companies with the heaviest influence in the NDX generally have huge amounts of cash on their balance sheet and they are some of the most profitable corporations in the world. Revenues and bottom line performance has become synonymous with mega cap technology.
This is in contrast to 20+ years ago, when tech stocks made huge moves higher on the hopes that profits would follow. In some cases, the profits slowly materialized (think Amazon). In others, they didn’t and many of those firms are relegated to historical case studies.
I’m apprehensive to argue that “it’s different this time,” but today's conditions are certainly not the same as they were in the late 90s.
Positions and Perspective
Related to the Napoleonic view of the past is the fact that our current position will inevitably shape our perspective on the past and our view of the future.
When I attempt to peer into the future, I see a point where the NDX is the benchmark for global equity performance. It takes time and effort to change herd behavior.
For the sake of example, it took Amazon 14 years to make ~$1.75B in profits. By late 2017, they produced $1.86B in profits in a single quarter. At the index level, you rarely hear the Dow Jones Industrial Average referenced as a barometer of the U.S. economy in the 21st century. Not long ago, it was the standard.
Future History
We don’t know what the next six months have in store for capital markets. Will NDX establish higher highs by the end of December? Will the index reverse course as companies and individuals digest the impact of consistent rate hikes? Time will tell and the narrative will evolve.
In any case, you can manage your exposure with a variety of index option products and craft your own story over the coming weeks, months, and years.
*Avg. closing value for NDX 12,997, Avg. daily volume 31,324, contract multiplier 100.
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Kevin Davitt
Nasdaq
Kevin Davitt is the Head of Nasdaq’s Index Options Content. Kevin spent years focused on options education with an index emphasis at Cboe Global Markets. Prior to his exchange work, Kevin traded index, equity, and commodity futures and options as a market maker at a variety of well-known firms. Davitt is a graduate of Marquette University. He’s a proud Evans Scholar alum and enjoys reading, live music, running and coaching youth baseball.
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