What happened
Many of the business technology and cybersecurity specialists that saw their share prices decimated over the last week breathed a huge sigh of relief on Tuesday. Cloud security expert Cloudflare (NET 3.77%) closed the day 10.8% higher, endpoint security specialist CrowdStrike (CRWD 3.63%) gained 10.8%, and data protection veteran Varonis (VRNS 1.73%) posted a gain of 8.5%. None of these companies had any news of their own to share today, and the cybersecurity industry was pretty quiet as a whole. These big moves were triggered by a downtick in U.S. Treasury bond yields, offering a respite from relentlessly rising yields over the last month.
So what
How do Treasury bond yields relate to the market value of leading cybersecurity stocks? Let me explain.
These companies have enjoyed booming business during the coronavirus lockdowns as corporations of every kind embraced remote work. Tight security is a must when your company's most important data is accessed from a laptop in the kitchen, and all three of the companies mentioned above can find solutions for exactly that dilemma.
Hence, their stock prices are skyrocketing. Varonis has gained 122% over the last 52 weeks, even after today's sharp pullback, and that's the laggard of the bunch. Cloudflare's one-year returns currently stand at 204%, and CrowdStrike is the leader of the pack with a 283% gain.
Furthermore, our three musketeers generally qualify as high-octane growth stocks. A laser focus on maximum revenue growth often leaves the bottom line printed in red ink, which makes profit-based valuation methods difficult to use. In this case, Cloudflare and Varonis have posted negative earnings and free cash flows on a trailing basis. CrowdStrike also generated negative earnings, but the stock is trading at 164 times the company's free cash flows of $250 million. These lofty valuation ratios make the stock prices sensitive to changes in market risks and in the tools investors use to mitigate those risks.
Therefore, many investors are more likely to sell some of their high-flying growth stocks when risk-free assets such as Treasury bonds can offer a reasonable return on their investment. That's how rising bond rates translates into falling growth stocks, and lower bond rates can let the growth stocks fly high again. Today was a fine example of the latter.
Image source: Getty Images.
Now what
Skyrocketing growth stocks are not every investor's cup of tea. There's a time and a place for focusing on stable value investments instead, especially when the air on Wall Street is starting to smell like an oncoming downturn. Small changes in bond yields can make a big difference in times like these.
That doesn't mean that Cloudflare, Varonis, or CrowdStrike are bad investments. If you have the stomach for a bit of increased market risk, and would be willing to ride out some bumps in the road ahead, all three serve an important growth market and could deliver impressive returns in the long run. To each his own, as the adage goes. Growth investors like exciting growth stocks, value investors prefer stable value stocks, and the tension between them generates both risk and wealth-building opportunity over time.
