GTEK: Is going back to tech a good idea (NYSEARCA: GTEK)


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Thesis

Goldman Sachs Future Tech Leaders Equity ETF (NYSEARCA: GTEK) is an exchange-traded fund (“ETF”) focused on high-growth technology stocks. The fund is new, having launched in late 2021, and on its way to a peak in technology stock valuations. This is usually how a market top is identified – a plethora of new funds and products that hammer home the same theme have proven very successful in previous years. The fund had a difficult year in 2022, with a drop of more than -38%.

After the Fed announced its decision to hike rates yesterday and issued guidance, the market rallied, driven by technology. A new investor might not find this intuitive, as rising rates are generally expected to lead to lower valuations for long-lived tech stocks. That was not the case on July 27, when investors instead opted to focus on Fed speech that gave them the impression that rate cuts would come sometime next year. The idea is that the Fed is committed to pre-empting all rate hikes this year, which will push the economy into a recession (today’s negative GDP print for the second quarter indicates that we are technically in a recession as we speak), which will in turn lead to lower rates across the board. Lower rates mean higher valuations for tech stocks, so it’s time to buy now, the market is looking to the future anyway, isn’t it? We are of a different opinion.

Our view is that rates will stay high for longer this time around and that the Fed is committed to seeing inflation figures come down substantially before cutting rates, even at the cost of a mild recession. As mentioned above, we are technically in a recession as we speak, with two quarters of contracting GDP numbers. However, the labor market is strong, consumer balance sheets are healthy, and the political apparatus is quick to point out that it really isn’t a recession when “Help Wanted” signs abound.

Structural inflation harms the long term growth, and the Fed knows it. It will not be enough for inflation to moderate for the Fed to cut rates – inflation will have to fall substantially and consistently for rates to be cut. We don’t think that will happen in the next few months as the market anticipates.

Currently, the forward SOFR and Libor curves look like this:

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Curves (Chatham)

We can see that the market is currently pricing the peak fed funds rates at the end of 2022 with a gradual decline in rates in 2023. The chart, courtesy of Chatham, also plots the midpoints of the Fed, also unreliable that we can find them.

The main indicator of inflation, the CPIcurrently exceeds 9%:

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CPI measures (government)

And while the personal consumption expenditure (“PCE”) price index is deceleration, it must still fall substantially. Please note that the core PCE excludes energy and food, the most volatile components of inflation. Also, a deceleration PCE means that the number continues to increase, but at a lower rate than before. Going back to our CPI chart, we can notice that the only other time in the last decade when the CPI was above 5%, it took an entire year for that figure to flatten out by five points. percentage and it was during the Great Financial Crisis of 2008/2009! By superimposing in the same logic and the same time frame, we can deduce that in a very aggressive scenario, the CPI will be at 5% next August at the earliest. Still, the market is seeing Fed rate cuts as early as Q1 2023. Something is not materializing in our view here.

We believe that the market is wrong, that it is calling for the same trade as in recent years, namely long technology stocks against the backdrop of structurally low rates. We believe that this time around inflation will prove much more rigid than expected, and higher rates will persist much longer relative to market expectations. We therefore believe that it is extremely premature to consider returning to GTEK, a name best revisited in the first quarter of 2023 when inflation expectations and Fed policies will be much clearer in the long term.

Assets

The fund falls into the Mid/Large Cap Growth box according to Morningstar:

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Style (Morning Star)

The fund is overweight in information technology:

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Sector weightings (fund fact sheet)

The underlying stocks still exhibit very high P/E ratios:

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Characteristics (Fund Fact Sheet)

The top names in the fund aren’t the big-cap tech names in your household:

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Top Holdings (Fund Fact Sheet)

Performance

The fund is down more than -38% this year, significantly “outperforming” the Technology Select Sector SPDR ETF (XLK) on the downside:

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Cumulative performance since the beginning of the year (in search of alpha)

The vehicle is down over -40% since inception, which is good advice for investors buying at the top of a certain market theme:

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Performance since broadcast (looking for Alpha)

Conclusion

Going long in tech stocks has proven to be a very profitable trade over the past decade. Fueled by low rates and abundant liquidity, the trade has brought capital to tech companies of all capitalization backgrounds. Goldman Sachs Future Tech Leaders ETF is an exchange-traded fund focused on high-growth technology stocks. Launched at the end of 2021, the fund has proven to be a reference in the valuations of technology companies. Down more than -38% this year, the vehicle is experiencing a significant drawdown. After the Fed announced its decision to raise rates on July 27, the market rallied on technology, with GTEK up more than 2% on the day. We don’t think the technology will experience a V-shaped recovery, and we strongly believe that higher rates are here to stay longer. In our opinion, going back to technology at this point is not a job to pursue.

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