What's up guys and welcome back to wall street millennial on this channel, we cover everything related to stocks and investing if you've been paying attention to the markets. You'll know that 2022 hasn't gone off to a great start. The tech heavy qqq index is down 14 year-to-date at the time of recording this video, which is the worst drawdown we've seen since march of 2020., kathy wood's arc. Innovation etf is down roughly 27 in the same period.

It has been more than cut in half since its all-time high roughly one year ago, so what in the world is going on? If we look at the five-year chart of the qqq, we can roughly split it up into three time periods in the pre-pandemic period. It increased at a moderate pace which is about what you would expect after the initial drawdown at the beginning of the pandemic, the fed started printing trillions of dollars which inflated the market to historic levels. The market got ahead of itself and now we're seeing a correction. The qqq has already sold off by 14.

Does this mark a viable bottom or is there still more pain in store? That's the 64 million dollar question that nobody can answer for sure. But if we look at historical market corrections, we can at least get some idea of what is likely to happen now. For the purposes of this video, we'll look at the tech, heavy qqq etf, which tracks the nasdaq 100 index, it's become very popular over the past five years or so because it has massively overweight, the mega cap tech stocks, which have done exceptionally well. The good news is that the qq hue etf has been around since 1999, so we have almost 23 years of historical data to study previous market crashes.

I've compiled a list of all the drawdowns greater than 5 since the qqq started trading in 1999.. In total, there are 31 such drawdowns, meaning that we should expect to see about 1.5 drawdowns of at least five percent each year. A drawdown is any time the qqq has decreased by more than five percent from peak to trough. Since 1999, there have only been 15 drawdowns of at least 10 percent right now.

The qqq is down 14 from the highs, so we might as well round it up to 15. A 15 drawdown is pretty rare in the past 23 years. It's only happened nine times, meaning that you should only expect to see this once every 2.5 years of these nine drawdowns, the average peak to trough loss has been 30. The average duration between peak and trough was 0.53 years and the average time until recovery was 2.35 years.

This means that if you were unlucky enough to buy at the top, you would have had to backhold for more than two years before breaking even again. These averages are heavily skewed by two massive outliers, the dot-com bubble, beginning in 2000 in the global financial crisis, beginning in 2007., the global financial crisis saw a 53 feet to trough decline and took more than three years to recover back to the highs. The dot-com bubble was even worse, the qqq saw an 83 decline and took almost 15 years to recover all the other crashes within the sample have recovered in less than one year. If we exclude the tech bubble in the global financial crisis, the average drawdown of a crash is only 19 and it recovers in less than half a year.

We can broadly think of there being two types of crashes. There are big fundamental crashes like the financial crisis and the dot-com bubble. Then there are garden variety corrections that recover pretty quickly. The big question is: what type of crash are we in now? If we're in a garden variety correction, we should only expect maybe five to ten percent more downside and we recover back to all-time highs by the summer, but for in a more serious crash there could still be a lot of downside, but is it really possible that We're in the beginning of a multi-year tech bear market we'll compare our current situation to the two previous fair markets of 2008 and the dot-com bubble.

During the 2008 financial crisis, a massive real estate bubble burst, causing banks and other financial institutions to recognize huge losses on their mortgage portfolios. Bear stearns and lehman brothers went bankrupt and almost all the other banks would have too if they had not been bailed out by the government. Today, the banking system is in a much better position. All of the major banks are adequately capitalized and have passed the federal reserve stress test.

The economy is recovering strongly from the pandemic, with unemployment within striking distance of pre-pandemic levels. In fact, there are a record number of job openings. Many companies are forced to dramatically increase their wages to attract applicants. The only problem with the economy is inflation running at a 40-year high, but we'll talk more about that later.

So now, let's move on to the second bear market, which was a dot-com bubble. The tech bubble was way worse than the 2008 financial crisis. The qqq suffered an 83 peak to trough decline. If you bought the qqq at the peak in 2000, you wouldn't even break even until 2015..

That is the worst case scenario for technology investors. A lot of people think that the market is in a similar situation to the dot-com bubble. For example, legendary investor jeremy grantham thinks that the fed has artificially inflated a massive bubble and sees 50 downside for the s, p, 500, and probably even greater downside for tech stocks, and there are some similarities between now and the early 2000s during the 1990s. The internet was first starting to gain steam.

Investors fell in love with new companies like microsoft and amazon. Thousands of new dot com companies went public, the vast majority of them were burning cash and most never even had a path to profitability, but with investors willing to give them ever increasing amounts of money, they were able to spend heavily on marketing to drive even more Unprofitable growth people kept buying shares of these money losing companies. Eventually the bubble reached a point of absurdity and crashed by 83 percent, with tech investors effectively losing everything. The spec mania we've seen over the past couple years is eerily similar to this.

After seeing tesla's meteoric rise, everyone got fomo and was desperately looking for the next tesla. This was a perfect opportunity for founders to raise billions of dollars, even when their technology was many years away from ever being profitable and in some cases, was outright fraudulent. You also have companies like rivien, which achieved a valuation well in excess of 100 billion dollars, despite the fact that they have yet to sell any cars. It's easy to point at rivien nicola or countless other specs as evidence that we're in a massive bubble.

But these stocks only make up a small part of the nasdaq. This chart shows the forward price earnings ratio of the s p. 500. The blue line represents the growth stocks within the s p, 500, and the red line represents the value stocks.

The growth index is roughly analogous to the qqq as of january 13th. The forward pe of the growth index was 27 times since then it has declined another six percent, so its p e is about 25.. Over the past 25 years, the average pe has been about 19, so we're still elevated compared to historical levels, we're nowhere near the 40 times pe that we saw the peak of the dot-com bubble. With that being said, there's still a potential for a further 24 downside.

Just to get back to the long run average of 19.. Does that mean you should sell all your tech stocks in anticipation of more pain ahead, it's a little bit more complicated. If you look at a chart of the 10-year treasury yield, it's been decreasing steadily for the past 25 years. Back in 1995, you can make eight percent risk-free by lending your money to the government.

This has declined to less than two percent today. In fact, the real yield has decreased even more because of inflation. Rising stocks compete with bonds. Obviously, if you can make eight percent risk free you're not going to be willing to pay as much for stocks which carry substantially more risk, the 25-year average pe for the growth index is 19..

This implies an earnings yield to 5.3 percent, which is one divided by the p e. The ten year treasury yield averaged four percent during this period. This means the risk premium was one point three percent. Today, the earnings yield has decreased to four percent, but bond yields have decreased by even more so.

The risk premium has actually expanded by a full percentage point. So, while stocks are overvalued, bonds are even more overvalued, at least when compared to their historical averages. If we apply the average risk premium of 1.3 percent to today's bond yields, the s p growth index should have a p e of 33 implying 33 upside from today's prices. This is all predicated on the 10-year treasury yield remaining low, which brings us to our next point.

The catalyst for the recent sell-off has been fierce about the fed increasing interest rates in the face of rising inflation. It's no secret that inflation has far surpassed the fed's expectations over the past year. Part of this can be attributable to supply chain issues related to the pandemic. Part of it can also be attributed to the fed injecting trillions of new dollars into the economy.

On december 15th, the fed released their dot plot, which shows their inflation expectations. They expect inflation to moderate down to three percent in 2022 and gradually make its way to their long run target of two percent. They also expect to increase the benchmark federal funds rate to 1 by the end of 2022 and gradually increase it to a long run average of 2.5 percent, but we don't have to take the fed's word for it. The 10-year treasury bond is traded on the market.

Its yield reflects the weighted average of the market's expectations for future short-term interest rates. The top chart shows a normal 10-year yield. The bottom shows the yield of treasury inflation-protected securities or tips tips reimburse investors for when they lose to inflation. Currently, the nominal 10-year yield is 1.75, while the 10-year tips yield is negative.

0.59. That means that inflation is expected to average 2.34 over the next decade. It's also important to note the fact that tips have a negative yield. If you buy government bonds, you are effectively locking in a real loss.

Stocks are real assets. If inflation increases, they raise their prices, making more nominal revenue and profits. This means their cash flows and dividends are protected from inflation in a world with negative interest rates. For the foreseeable future, you could theoretically justify an arbitrarily high price for real assets.

The point is we're nowhere near the tech bubble. At the peak of the tech bubble, real interest rates were 6 and the p e ratio was 40 percent. Today, real interest rates are negative and the forward pe is only 25.. It seems highly unlikely that we're entering a 15-year lost decade.

Like was the case after the dot-com crash. With that being said, the valuation gap between growth and value stocks is wide compared to historical standards. Value stocks look extremely attractive at these levels. Their pe of only 17 is only a couple points above the average, despite the fact that real rates are historically low.

If your scared technology stocks will continue to crash, you should probably consider switching to value stocks instead of dumping, everything and converting to cash. Alright, guys that wraps it up for this video. What do you think about the current nasdaq crash? Do you think there's further downside? Let us know in the comments section below as always. Thank you so much for watching and we'll see you in the next one wall, street millennial, signing out.

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