What happened
A broad cross-section of the stock market hit the skids Monday, as the economy once again took center stage. A report on the state of the service sector fueled fears that the Federal Reserve will be forced to continue its relentless campaign of rising interest rates in order to bring inflation under control.
With that as a backdrop, shares of Amazon (AMZN -0.01%) were down 3.3%, Okta (OKTA 2.18%) tumbled 4.8%, and Roku (ROKU 5.41%) slumped 7.1% by the time the market closed.
A check of all the usual sources found no company-specific news behind the sell-off, which suggests that the latest service sector data had investors worried the Fed will likely continue its ongoing campaign of interest rate hikes.
So what
The Fed has been clear that it will use all the tools at its disposal -- particularly raising interest rates -- in order to combat persistent inflation. However, the tone of the central bank changed early last week when Fed Chair Jerome Powell suggested slower rates hikes could be coming. Some economic reports had suggested that inflation was cooling, fueling hopes that a slower cadence of interest rate increases would be appropriate.
Unfortunately, the latest read on services data wasn't what Wall Street was looking for. The Institute for Supply Management (ISM) released its monthly services report on Monday, and the results revealed that business activity expanded for the 30th consecutive month, which shows that inflation has yet to be brought under control.
Specifically, the Services PMI grew 2.1% to 56.5% in November, reflecting consistent strong growth in the economy -- exactly the opposite of what the Fed is trying to achieve. For context, any read above 50 suggests an expanding economy, while any reading below 50 shows an economy that's contracting.
The strong results come even after the Fed has raised interest rates to their highest level since 2008 in order to cool red-hot inflation.
Now what
The robust services report suggests that we'll be dealing with higher interest rates for the foreseeable future -- something Wall Street had hoped to avoid.
These factors could continue to put pressure on our trio of companies. Consumers and business alike have been looking for ways to save money in the face of rampant inflation.
2022 has already been a tough one for Amazon, which has seen its slowest e-commerce growth in years. Growth on Roku's streaming video platform has slowed to a crawl, pressured by tough comps and marketers pulling back on advertising spending. Meanwhile, Okta's identity verification and access management services could also suffer as businesses look for ways to cut spending. It's likely that the pain could increase in the event of a prolonged downturn.
But this cloud has a silver lining. Each of these stocks is currently trading at far lower multiples than a year ago, bringing their valuations near bargain-basement territory. Okta, Roku, and Amazon are currently trading for 4 times, 2 times, and 2 times next years' sales, respectively, when a reasonable price-to-sales ratio is between 1 and 2. That said, companies with a history of consistent growth and strong future prospects have often been rewarded with premium valuations.
For investors with an appetite for a little risk and the ability to stomach some volatility, buying shares in these top-shelf companies will seem like a brilliant move three to five years from now.
