Shares of a number of high-growth stocks tumbled on Monday as investors focused on economic issues that had the major U.S. stock indexes looking for direction.
Datadog (NASDAQ: DDOG) was off by as much as 4.6%, HubSpot (NYSE: HUBS) stock was down as much as 4.8%, and MongoDB (NASDAQ: MDB) slumped as much as 5.9%. At the end of the session, the trio was still trading lower, down 3.5%, 3.2%, and 4%, respectively. The broader market indexes ended the day mixed, with the S&P 500 gaining 0.13% on the day, while the Nasdaq Composite declined 0.43%.
There was very little company-specific news behind the sell-off, but fears regarding the overall condition of the economy had a hand in driving these stocks lower.
Fears regarding the potential for a recession seemed to be the overriding factor that drove high-growth stocks lower. The problem is that even economists can’t seem to come to a consensus about whether the economy will experience a recession or if we are already in one.
On Thursday, July 28, the U.S. Department of Commerce is scheduled to release its quarterly gross domestic product (GDP) report, which will finally provide some insight into the current state of U.S. economic activity. The data is widely expected to show that the economy contracted for a second consecutive quarter, which would show that the U.S. is already in a recession.
Speaking to reporters on Monday, President Joe Biden sought to ease those fears, saying, “We’re not going to be in a recession, in my view.” Furthermore, Biden administration officials pointed to the robust labor market as evidence that the U.S. is not in a recession. In fact, the country has never experienced a recession that didn’t include the loss of jobs, according to National Economic Council Director Brian Deese.
Treasury Secretary Janet Yellen echoed that opinion, suggesting the U.S. economy is merely slowing, as evidenced by increasing consumer spending and a healthy jobs market. “We’ve got a very strong labor market,” Yellen said. “This is not an economy that’s in recession.”
Unfortunately, with inflation at 40-year highs and fuel prices down only slightly from recent records, investors are looking for any sign that we are nearer the end of this economic upheaval than the beginning.
Just one of our trio of stocks had any company-specific news today that could have contributed to the share price decline. RBC Capital analyst Matthew Hedberg lowered his price target on Datadog to $115, down from $167, according to The Fly. Yet, even this lower price target suggests potential gains for investors of 23% compared to Friday’s closing price. Perhaps more importantly, Hedberg sees potential for continued strong growth and margin expansion, which should be more important to long-term shareholders.
Eagle-eyed investors will have noticed one important similarity between these three stocks — even after today’s declines, they’re still not cheap using traditional valuation metrics. Datadog, MongoDB, and HubSpot are currently selling at 24, 20, and 10 times sales, respectively, when a good price-to-sale ratio is generally considered to be between 1 and 2. During periods of market uncertainty, stocks with frothy valuations like these tend to be more volatile, as investors tend to sell first and ask questions later.
A look under the hood, however, shows why investors are willing to pay top dollar for these companies. In the most recent quarter, HubSpot, MongoDB, and Datadog grew revenue by 41%, 57%, and 83% year over year, respectively. It’s also worth mentioning that only one of the three — Datadog — is profitable on a generally accepted accounting principles (GAAP) basis, though all three are generating positive free cash flow. This suggests that the losses are caused by non-cash items such as depreciation, and profits are just a matter of time.
Growth of this magnitude suggests these companies are deserving of a higher multiple. Given the strong underlying fundamentals and exceptional performances that preceded these lofty valuations, there’s certainly an argument that these high-growth stocks might actually be cheaper than they seem. That presents astute investors with the opportunity to get these stocks at a discount.