High-growth funds lead the tech wreck after inflation ticks higher
In the 2020-21 financial year, global growth funds endured some of the worst conditions since the GFC, with almost 98 per cent of funds finishing the fiscal year deep in the red. It was an horrendous year for growth funds, especially those exposed to high-growth tech stocks, which were widely seen as overvalued at the market peak in late 2021. A sudden rise in inflation, which triggered an aggressive response from central banks around the world, sparked a rotation out of risky, high-growth tech stocks and into safe, inflation-protected assets.
Most affected amid the tech carnage was Michael Frazis’ Frazis Capital fund, which had delivered exceptional returns in 2020 and 2021.
The fund lost 12.5 per cent in June alone. The fund backs fast-growing companies investing in the future rather than harvesting cash today, with a particular focus on consumer backing. With inflation shooting to a 40-year high, the Federal Reserve, along with the Reserve Bank of Australia (RBA) and other central banks, have begun raising rates. Most of the Frazis Fund’s tech stocks bought during the pandemic were banking-on making money sometime in the future. But if interest rates go up, expectations for how much money a company will make in the future are lowered, because of inflation and the higher interest repayments on borrowed money.
The pandemic bubble has burst, with consumers also shifting their spending habits away from digital consumer discretionary items to consumer services such as travel, away from online experiences to real-world experiences. The buy-now-pay-later sector was smashed with ZiP Co (ASX:ZIP) shares falling by roughly 80 per cent. Many internet platforms are down over 70 per cent calendar year-to-date, including Zoom, Roblox, Snapchat, Netflix, Pinterest, Spotify, Shopify, and Etsy. Both thriving and declining platforms were sold-off in similar fashion.
In an article to investors, Frazis advised investors that he was taking a longer-term view and has refrained from selling any positions. He said, “The strategy of investing in growth is a sound one – both for management teams and shareholders. Even now, many of these companies down 70 per cent-80 per cent have created tens of billions of dollars of wealth and serve tens or hundreds of millions of customers, despite only being founded a few short years ago. These companies achieved this by hiring, building and investing in talent – all recorded as expenses – which is precisely what the market is marking down so severely right now, lumping all such companies into the basket of ‘unprofitable tech’. “
The second-worst-performing fund was the Baillie Gifford Global Growth fund, which lost 44.1 per cent followed by WCM International Small Cap Growth fund, which returned minus 37.7 per cent
All in all, many hard-hit tech companies have continued to grow strongly while their values have languished. While nobody expects the tech sector to rise back to pandemic levels anytime soon, at some point, valuations will normalise and the factors driving the tech sector lower will reverse.