Cloud shares get off to a brutal begin to 2022 as buyers pissed off the pandemic’s high performers
Pedestrians wearing protective masks pass in front of a banner with the signage of Asana Inc. in front of the New York Stock Exchange (NYSE) in New York, United States, on Wednesday, September 30, 2020 during the company’s initial public offering (IPO).
Michael Nagel | Bloomberg | Getty Images
Cloud software has been one of the best bets for investors over the past half a decade. But that trade has been moving fast lately.
The slump, which began in November and deepened this week, is due in part to market rotation, in part to the reopening of the economy after the pandemic, and in part to concerns that the Federal Reserve’s expected rate hikes are having an oversized impact on it special sector.
For years, cloud computing services have been among the top winners in technology that outperformed even the broader market. Since Bessemer Venture Partners created the BVP Cloud Index of listed companies in August 2013, the basket has risen by 909%, almost three times the earnings of the Nasdaq and five times better than the performance of the S&P 500.
Covid-19 proved to be a great boon as businesses, schools and government agencies accelerated their transition to the cloud so they could access remote communication, collaboration and storage tools. E-commerce software provider Shopify, video chat service Zoom, and e-signature provider DocuSign were among the big winners, all of whom posted strong sales growth and clear triple-digit stock gains in 2020.
These software-as-a-service, or SaaS stocks have since gone out of style. While the old computer and printer manufacturer HP Inc. is making new highs and the Dow Jones Industrial Average has fallen only slightly this year, the darlings of home work are suddenly in a bear market.
Zoom and DocuSign are each more than 50% below their 52-week highs, and Shopify is down 34%. Asana was the top performing US tech stock through mid-November last year. The project management software provider has since lost 58% of its value.
Cloud stocks as an index are down 29% from their November high.
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Byron Deeter, a venture capitalist who invests in software startups at Bessemer, said Tuesday the market had “taken a 30% discount after Christmas” on cloud stocks.
“Across the entire basket, the cloud industry and software have been holistically hammered,” Deeter told CNBC’s TechCheck. “Basically, these companies remain the drivers of the new economy, and we need to remember that all of those trends that people looked forward to a year ago in the 2020 market, when that basket returned almost 100%, are still there today.”
Higher interest rates can be challenging for much of the market, but they present a significant hurdle for cloud stocks, especially for companies that are new to making money. Investors value companies based on the present value of future cash flow, and higher interest rates will reduce the amount of that expected cash flow.
Minutes of the December Fed meeting released on Wednesday gave further impetus to investors looking to keep their portfolios biased towards rising interest rates as the central bank prepares to pull back its pandemic-era loose monetary policy.
The WisdomTree Cloud Computing Fund was down 6% on Wednesday and is down 10% for the week on Thursday’s closing price. The index is in its second worst week since the pandemic began, with the only steeper decline coming about a month ago.
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“I think SaaS is generally declining because interest rates are rising and there tends to be a pretty close correlation between high-growth software versus interest rates,” said Khozema Shipchandler, chief operating officer at Twilio, which sells back-end software for the Communication.
Twilio’s share price has fallen 46% from its high early last year, despite earnings and sales beating estimates every quarter. Revenue for the third quarter rose 65% while the stack of cash and marketable securities climbed from $ 3 billion in late 2020 to $ 5.4 billion.
“I’m not very worried about it,” said Shipchandler of the share price. “I’ve got $ 5 billion in cash on the balance sheet. I know I can basically survive any cycle.”
Investors in the room see the same thing.
“I think this is an opportunity to buy,” said Nina Achadjian, a partner at Index Ventures who previously worked at Google. “The fundamentals of these companies have not changed.”
The continued sales growth coupled with the drop in prices means that the sales multiples that investors are paying have been compressed. Last February, according to the BVP index, cloud shares were traded at an average of 16 times the time income. Now they’re at 10, the lowest since May 2020.
Zoom trades at 14 times sales on a trailing basis, up from a high of 189, according to FactSet. DocuSign’s multiple is 15 after falling from a high of 50.
While not every cloud provider has the Twilio, Zoom, or DocuSign buffer of liquidity, many companies in the industry have high software margins and are powered by subscription businesses that continue to have strong ties.
“These are recurring models,” says Michael Turrin, an analyst who covers cloud companies at Wells Fargo. “You have a really good insight into the underlying business models.”
Turning these fundamentals into good investments can take patience. The Nasdaq index outperformed the Dow every year from 2017 to 2021. In the first week of 2022, the Dow managed to make a tight profit while the Nasdaq slumped 3% and cloud stocks hit.
– CNBC’s Ari Levy contributed to this report.
CLOCK: Cloud Basket feels like an opportunity to buy