The stock market was deeply divided on Monday, with certain sectors doing far better than others. In a relatively unusual development, the Nasdaq Composite (NASDAQINDEX:^IXIC) found itself on the short end of the stick, with the index falling almost half a percent in mid-afternoon trading even as other stock market benchmarks were up on the day.
Overarching the Nasdaq's underperformance on Monday was one factor. It has nothing to do with the fundamental performance of the businesses that has driven stock prices so much higher over the past 18 months. However, it's a key factor that many stock analysts use in determining valuation, and that explains the seemingly irrational aversion to high-growth stocks Monday. Below, we'll look more closely at what's happening.
Interest rates on the rise
What appears to be sending the Nasdaq lower is a reaction from growth investors to a completely different side of the financial markets. Treasury bond yields have been on the rise lately, and that's leading to a revaluation of some of the leaders in the stock market recently.
Specifically, 10-year Treasury yields have gone up sharply. Less than a week ago, the bonds were yielding just 1.3%. That jumped as high as 1.52% on Monday. That's a very quick move for Treasuries.
Driving higher bond yields is the expectation that the Federal Reserve will make moves as appropriate to try to normalize monetary policy. The Fed probably won't make sudden, unexpected rate hikes, as it has done everything it can to signal a gradual return to normalcy. However, markets are anticipating the likelihood of tapering of bond purchases as a precursor to rate hikes. The eventual exit of the Fed from the Treasury market could reduce demand and build more upward pressure on interest rates.
What does this have to do with high-growth stocks?
What's happening in the bond market has little direct impact on high-growth companies. However, some valuation methods for companies apply a discount rate to future profits based on how far into the future they're expected to come in. The higher the discount rate, the lower the value of earnings that are still several years or even a decade or more out.
That's likely the reason why some particular favorites on the Nasdaq are doing poorly today. Workplace collaboration software specialist Atlassian (NASDAQ:TEAM) is down 6%. Latin American e-commerce giant MercadoLibre (NASDAQ:MELI) posted a 5% decline, as did veterinary diagnostics specialist Idexx Laboratories (NASDAQ:IDXX).
Some decliners on the Nasdaq also had company-specific fundamental factors weighing them down. In the vaccine space, for instance, expectations that the COVID-19 pandemic will eventually come under control weighed on Moderna (NASDAQ:MRNA), BioNTech (NASDAQ:BNTX), and Novavax (NASDAQ:NVAX) to the tune of 4% to 7% Monday afternoon.
It's never fun to watch the stocks you own go down for apparently poor reasons. However, keep in mind that as a long-term investor, you don't have to worry about short-term moves. In the long run, stocks gain ground because their fundamental business prospects are sound and lead to sustained growth.
If you still have confidence that the stocks you own have promising futures, then be patient. Eventually, stock prices match up well with the health of real businesses -- and if yours do well, you can expect to profit in the end.