What happened
A wide cross-section of the stock market gained ground Tuesday morning, continuing its upswing from Monday. As a result, shares of many high-growth stocks got a lift, catching a tailwind from a rally by the broader market indexes. After being beaten down since late last year, investors appear to be shopping for shares of beaten-down stocks, mainly in the hopes that the worst of the bear market is over.
As a result, CrowdStrike Holdings (CRWD 3.63%) surged 3.7%, Snowflake (SNOW 2.69%) jumped 3.4%, and Datadog (DDOG 3.58%) gained 2.3% as of 11:35 a.m. ET.
Image source: Getty Images.
So what
To be clear, there was no company-specific news driving CrowdStrike, Snowflake, and Datadog higher today. Rather, investors appear to be increasingly optimistic that the market could sustain its recent momentum, sending them bargain-hunting for high-growth stocks that have been dragged lower by macroeconomic headwinds.
This year has been particularly trying for technology stocks, pushing the tech-heavy Nasdaq Composite down more than 32% thus far in 2022. As a result, some investors dumped high-growth companies, opting instead for safer harbors to dock their cash until the economic squall has passed. In a great example of the effect of this market on technology stocks, CrowdStrike is down by 34%, Snowflake has fallen 49%, and Datadog has dropped 53% from highs reached late last year.
Over the past couple of days, however, investors appear to contemplating moves by the British government and an early round of bullish earnings reports as signs that things might finally be turning around. This pushed the broader market indexes higher, at least temporarily, as the S&P 500 and the Nasdaq gained 0.7% and 0.6%, respectively.
The optimistic mood came on the heels of a brutal start to October, as the S&P and the Nasdaq have lost 3% and 4.4%, respectively, through the market close yesterday.
Now what
While investors appear increasingly upbeat this week, it's important to keep in mind that sentiment can change from moment to moment, which means there's much more volatility on the horizon for Snowflake, CrowdStrike, and Datadog shareholders, and even more so until this economic storm has passed.
The latest read on inflation came in higher than expected last week, as the core Consumer Price Index rose 0.4% sequentially and up 8.2% year over year, according to data compiled by the U.S. Bureau of Labor Statistics. The Federal Reserve Bank has pulled no punches regarding its dedication to get relentless inflation under control. This will likely cause additional rising interest rates well into 2023, further pressuring the economy, which could in turn weigh on this trio of businesses.
Snowflake's livelihood depends on companies using its data cloud and analytics platforms, and demand could soften if macroeconomic conditions persist. Likewise, CrowdStrike has thus far been insulated from the pain as companies have been reticent to cut back on cybersecurity services for fear of suffering the consequences, but that too could change. Furthermore, Datadog's system monitoring and analytics could be viewed as a luxury during a prolonged downturn, hurting the company's growth prospects.
Yet, there are reasons to be bullish. Snowflake's revenue grew an impressive 83% over the preceding 12 months. At the same time, CrowdStrike's sales surged 58%, with much of this the result from recurring revenue, while Datadog's sales jumped 74%. Perhaps as importantly, while they're not profitable, CrowdStrike, Snowflake, and Datadog each generate strong free cash flow, which suggests profits are merely a matter of time. Furthermore, revenue growth of this magnitude is particularly impressive given the economic backdrop, which suggests that -- at least thus far -- the value these businesses provide currently outweighs companies' need to cut spending.
The declining share prices have presented investors with much more compelling entry points than just a year ago. That isn't to suggest the stocks won't decline further -- they almost certainly will. However, history suggests that calling a bottom is an exercise in futility, and each of these stocks is currently trading near their lowest valuations in years.
Still, these high-growth stocks aren't for everyone, as they're still not cheap in terms of traditional valuation metrics. Snowflake, CrowdStrike, and Datadog are currently selling for 17 times, 12 times, and 11 times next year's sales, when a reasonable price-to-sales ratio is between one and two. However, given their well above average growth rates, I'd submit that each of these stocks is deserving of a premium.
For those with an investing time horizon of three to five years out, buying shares of these disruptive companies while their valuations are near all-time lows could be a solid, long-term investing choice that results in market-beating returns.
