Inflation in the United States came in a little over expectations: The consumer price index rose 7.5% last year, the largest figure in some decades. In response, expectations for monetary tightening in America are also running hot.
And as interest rates rise, there’s an expectation that safer assets will become more attractive, and more speculative assets less so. Closer to home, it’s a common perspective that rising rates will lead to a generally bearish climate for public tech valuations. Backing the theory is the fact that in light of the hot inflation print this morning, stocks are down sharply in pre-market trading, with tech stocks leading the flop.
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Not everyone shares the anticipation that rates will ding tech valuations, it’s worth noting, but it’s a sufficiently standard view that it’s nice that the market has set up a natural experiment for us.
Whether it’s five rate hikes in 2022 — or four, or six — the price of money is going to go up this year sharply, at least in the United States. Around the world, we’re seeing a more mixed bag, with monetary policy loosening in China and Europe seeming set to hold course at present rates.
But the U.S. market for tech listings, major technology companies, and startup investment is sufficiently critical to the global markets that what happens here will impact the rest of the world. The expectation of rapid-fire monetary tightening is pretty damn important.
What’s ahead
Briefly, here’s how we got to today’s tech prices and ebullient market: In the wake of the 2008 financial crisis, governments lowered the cost of money through rock-bottom interest rates, among other monetary mechanisms for giving economies a boost. The low cost of money meant that traditionally safer assets like bonds became less attractive than before, as yields were very low — even negative in some cases.
So, lots of capital around the globe went yield-hunting. One good place to put bored cash is into assets and asset classes that you think have an outsized chance at generating return while other possibilities are limited. This led to money racing into venture capital funds, and stocks with greater-than-average growth prospects compared to the larger market. Tech stocks, for example.
COVID-19 magnified the above, or perhaps accelerated the trend. As the pandemic took hold, the value of a great number of industries was flattened. You recall the early 2020 selloffs, a time in which GDPs around the world took a hit and stocks tumbled. But after the initial panic, investors noticed that every industry still had to buy software. It became clear that many tech companies were going to avoid much of the pandemic damage, so money piled into tech stocks.
Even more, some tech companies picked up COVID-related tailwinds, meaning that in a winning industry there were even greater victors to pick. Names like Zoom, Peloton, DoorDash, Coinbase — you can fill in the list yourself. Tech stocks became a hedge against market turmoil and a potential path to capital appreciation.
Rising rates and the end of the pandemic are, therefore, related to concerns surrounding tech valuations, but distinct enough that their negative impacts could prove additive.
As rates rise and money becomes more expensive and safer assets see their yields improve, the relative value of tech stocks should come down. Furthermore, as the pandemic fades and other industries rise from the ashes of their COVID purgatory, they should do well relative to more pricey technology stocks. So, it would not be too wild a view to anticipate that tech stocks — and, therefore, their younger cousins in startup land — are not going to have a great year.
But maybe not. Tech is still in a pretty healthy spot from a demand perspective, even if some major companies have posted less-than-stellar results in the current earnings cycle.
The public cloud is crushing the game, startups are richly capitalized, venture funds have already been built, and tech is still, well, important to the global economy. You could make a bullish case that tech shares are already oversold, or that their long-term prospects are sufficiently strong that short-term chop doesn’t matter.
It’s clear that we’re entering a new monetary world here in the United States. Let’s see what the impact is on tech.
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