Market Recap: Key takeaways from August's volatility​

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Nadine Yang: AI certainly remains a theme, but it feels like less of a driver of performance as investors really start to focus not just on the AI opportunity, but how will those AI products and initiatives ultimately change the P&L of those companies. Overall, investors continue to reward high quality, durable, and profitable growth stories in this much more volatile macroeconomic environment.

John Zimmerman: Hey, everybody. You are listening to What's The Deal? our investment banking series here on J.P. Morgan's Making Sense podcast. I'm your host, John Zimmerman, a vice president on our Private Capital Markets team. Today we're recapping the recent market activity in equity capital markets with Nadine Yang, an executive director in our Technology Equity Capital Markets group based in New York. Nadine, welcome to the podcast. Great to have you.

Nadine Yang: Great to be here.

John Zimmerman: So, Nadine, before we dive into the market discussion, I think it would be helpful if you could introduce yourself to the listeners. Share a little a bit more about your career, here at J.P. Morgan.

Nadine Yang: Definitely. I joined J.P. Morgan in 2015 in Strategy after a four-year stint in consulting. And since then, I've had a diverse set of roles across equity capital markets, private capital markets, and financial sponsors in Hong Kong and New York. It's been a great journey so far.

John Zimmerman: Great, let's jump into the conversation. We've had a dramatic start of August in global equity markets. Could you provide a quick recap of the market activity over the past few weeks?

Nadine Yang: Yeah. So, it's been a bumpy ride, and I think it's likely going to be a bumpy ride for a bit longer. The first full week of August started off with equities logging their worst daily decline since 2022. And volatility spiking to 65. The highest levels since COVID broiled markets in 2020. This was largely driven by disappointing macro data, concerns of weakening growth, and re-pricing of recession probabilities, as well as the global unwinding of the Yen carry trade.

Nadine Yang: Our colleague from our asset and wealth management division as well as frequent guest on the podcast, Michael Cembalest, has shared that the conviction in the AI driven rally was so uniformly held that by mid-July, short interest on the S&P and Nasdaq practically disappeared really contributing to the lack of volatility in the market to date. We also heard from mutual funds that they had been positioned defensively heading into earnings given what they perceived to be over heating in the broader markets.

John Zimmerman: Gotcha. Interesting. And then, when you think about the turbulence in August, how did you see or how do you characterize the market response following that initial decline?

Nadine Yang: So, when we first saw a lot of the volatility, we felt like a lot of this was very much technically driven, underpinned by some fundamentals. And I think we ultimately ended up being right. We saw a quick recovery in the markets. And after this short-term volatility, logging the best two-day run of the year on August 8th and 9th. The market continued to accelerate on the back of strong macro data, which included a good inflation print, resilient growth numbers, favorable July end earnings, as well as dovish Fed rhetoric. And the market ended up closing the week ending July 16th with the strongest one-week performance that we've seen since November 2023. So, John, now that we've talked a little bit about what was happening in the broader equity markets. What are you seeing on the private side?

John Zimmerman: Yeah, thanks Nadine. I think the private capital markets remain active across all fronts. I think as a private capital group here at JPM, we've raised a little over 15 billion of capital year-to-date on behalf of our clients. We're busy with our traditional growth capital and pre-IPO mandates for our private clients, and have active dialog around PIPEs for acquisition and catalyst-driven financing for our public clients. Sponsor secondary opportunities, particularly within mid to late-stage, more mature private companies, predominantly in software, remain very active and interesting to us. And then lastly, our special situations business, what I'll call capital solutions or hybrid capital opportunities, remain very active. We're working with a number of issuers, both public and private, on structured capital solutions to provide non- or less dilutive equity and credit-oriented capital to support growth, and then a broader capital structure refinancing, so overall I'd say we're feeling pretty optimistic. We really like the- the quality of opportunities we're actively working on right now and see our pipeline for the second half of the year, I mean, at this point really Q3 and Q4 post Labor Day as really exciting. So, I'd say we're in prep mode now, but looking forward to a fairly active rest of 2024.

Nadine Yang: That's great to hear. Thanks for that, John.

John Zimmerman: Shifting our focus to the technology sector, what trends are you observing there?

Nadine Yang: Yeah. So the major scene since 2023 is really been the out-performance of large cap stocks. Now, that out-performance continues to be highly concentrated in select stocks. And I'll give you one data point, which is that only 20% of the companies in the S&P are actually out-performing the S&P today. That's the lowest level it's been since the 1990s, and that's compared to what it has been historically, which is roughly around 40%. The mag seven in particular continues to out-perform and just to know Nvidia driving the largest performance gains year to date. It's up over a 150%, followed shortly by Meta, which is up over 50%.

John Zimmerman: Nvidia is interesting in that we see the look through from some of the publicly traded AI stocks is definitely being reflected in the private capital markets, both from an interest level, but I think from an evaluation perspective as well. I think you're also seeing some private AI businesses. You've got a lot of private AI businesses that feel like they're in a bit of an AI crosswind. Maybe talk a little bit about evaluation. How should we think about current evaluations for AI-related stocks? I mean, some of the volatility is going to play into it of late, but talk to us more about what you're seeing on the evaluation side of things.

Nadine Yang: Yeah. And maybe I'll make one comment more broadly speaking, which is that at the end of the day, the equity markets, particularly technology equity markets, growth is probably the number one focus for investors, and ultimately for evaluations. Evaluations for AI continue to reach record levels. And just to give you a sense. The average price to book ratio for semis related stocks over the past decade has really been between two and four times historically, but has reached 12 times today. And that's because of the level of visibility in terms of growth that a lot of the investors have for each of these businesses. Across tech more broadly, we are still below record evaluation levels from 2021, with the exception of some of those best-in-class growth stories. And the number of tech companies trading above a 15 times revenue multiple is 90% lower than where it was in 2021. It was 63 companies in 2021 versus just four today. I think at the end of the day, when we look through what's going on in the public market back to the private market, it's really about that visibility into growth and what are the macroeconomic factors and business-specific factors that are gonna drive investors to be able to underwrite those growth stories.

John Zimmerman: Totally. I think from the private capital market lens, we are seeing that bid-ask on valuation tighten up a bit where it sounds like maybe even late last year, a little bit into early this year we're still struggling a little bit to marry investor expectations with issuer expectations and then thinking through, "Okay, are there ways to introduce a degree of structure to meet in the middle?" But it does feel like a rather stable, dare I say, public equity environment, which obviously hasn't been the case for the past couple months, is lending to that bid-ask tightening up a little bit. Maybe switching gears here, just thinking a little bit about earnings. So we just came out of earnings season. Any themes you picked up on your side this quarter, how they compare to previous quarters, maybe even a look through of what that's gonna potentially mean for deal activity in Q4 and I guess for the remainder of Q3? But what was your take on earnings and then what do you think the look through rate is for the rest of the year?

Nadine Yang: Yeah, so overall earnings were stronger than we expected, and EPS growth actually came in better than we originally estimated at roughly 8% year-over-year. The other key takeaway that we saw was a broadening in earnings delivery with the S&P 500, excluding the Mag 7, delivering the first positive EPS growth that we've seen in over four quarters. We're also seeing just from a number of data points throughout the earnings season indicating a cautiously stabilizing spend environment, particularly for software, which has really been the main driver behind lower than expected growth expectations for a lot of software and technology services companies. So overall, really positive and exactly what we were hoping to see as we look forward towards the change in the Fed interest rate curve.

John Zimmerman: So overall sounds pretty positive. Any areas where we saw general underperformance?

Nadine Yang: Yeah. Well broadly we see earnings this quarter as being robust, some metrics have underperformed, including the percentage of companies beating sales estimates. That's been lower than what we have seen historically. Within tech specifically, certain subsectors have definitely underperformed, specifically calling out tech services which had the lowest percentage of companies beating earnings at roughly 41%, and that's largely driven by some of the themes that I called out earlier, which is really around the visibility to IT spend against both an uncertain macroeconomic environment as well as enterprises pressing pause on new spend as they evaluate the AI landscape.

John Zimmerman: Got it. And then thinking through how we opened this section of the pod and thinking about the look through from an investor's perspective, working through earnings and then also transitioning to guidance, sitting in the investor's seat now, what have you heard from investors? How do you think investors are reacting to the latest slate and what do you think that means for their general participation for the rest of the year?

Nadine Yang: Investors have mostly been focused on the magnitude and sustainability of performance as a read through to future quarters. For companies that have missed or offered more conservative guidance, investors have been focused primarily on the drivers of that underperformance and whether the challenge macro environment will continue to put pressure on financials, and overall we've seen the bar get that much higher for companies in terms of what they're actually showcasing the forward look looks like. AI certainly remains a theme, but it feels like less of a driver of performance as investors really start to focus not just on the AI opportunity, but how will those AI products and initiatives ultimately change the P&L of those companies. Overall, investors continue to reward high quality, durable, and profitable growth stories in this much more volatile macroeconomic environment.

John Zimmerman: So given market conditions, so we've got two weeks to Labor Day give or take, so I think it feels like it's gonna be quieter. I mean, you tell me if I'm wrong, but let's say two weeks to go. Expectations post-Labor Day, rest of the year, do you think we'll be busy? I mean, I know we've got a lot of businesses that were staying in front of their... monitoring their windows. I think on the private side, it feels like we're gonna continue to be busy. We've got some higher quality opportunities I think we're gonna bring to the market post-Labor Day. I think we're largely gonna sidestep the election on the private side. I think in your world, you're gonna see... Uh, you tell me, but I think much more relevant, but how do you think about post-Labor Day expectations around activity? And then also maybe touch on the election a bit, and if you think that might be a factor.

Nadine Yang: Yeah, absolutely. So big macroeconomic or geopolitical events definitely put pause in the public markets just because of the element of surprise or uncertainty resulting from those events. But coming back to school we will be cautiously optimistic. Certainly given the recent stronger US macro data that we saw last week as a result of a recession fading, it certainly feels like we will continue to see strength through the rest of the year. There are obvious broader geopolitical and election concerns that we'll continue to monitor, and I do think that that probably means issuance does slow down or at least people start to evaluate their windows more cautiously mainly on the election. The outcome could bring some changes to things like trade policy, foreign policy, regulation, and fiscal and tax policy through higher tariffs and increased fiscal spending with the risk of higher inflation as a result of this. That said, disinflation trends and ultimately the start to the rate cutting cycle, which the market actually expects to happen in September, should definitely help drive outperformance in the US economy through the rest of the year just by virtue of a lower cost of capital for many of the companies that are reinvesting in the economy.

John Zimmerman: That's helpful. And looking at the stats, right, so we've got equity issuance up 50% year to date driven by a 200% increase in IPO volumes and 100% increase in convertible volumes. Thinking about those two data points, right, like, a dramatic rebound I think on both products, how do you square that with respect to just all the volatility we've seen geopolitically, economically? The market and volumes continue to be, for lack of a better term, [inaudible 00:19:17] thus far. How should we think about just the trends in the IPO volumes and the convertible volumes being up fairly strongly this year?

Nadine Yang: Yeah, so I think we definitely expected to see volumes up, especially on the back of what was a very quiet 2023. This year we've had 45 IPOs raising $24 billion of capital, and eight of those IPOs have been in tech specifically. The total IPO issuance, however, is still not in line with the five-year average if you exclude COVID, and I do think that we expect 2025 to be much more in line, potentially ahead of that historical average. For the remainder of the year we expect equity issuance largely to be driven by opportunistic follow-ons, blocks as well as converts, which has really been the product du jour. And that's largely just because IPO volumes do tend to drop off in Q4 of an election year, specifically around the election. With that said, preparation is key, and many of our potential IPO issuers are going to start to get ready for 2025.

John Zimmerman: Yep. Totally, and I think what's also interesting is our focus on thinking through some of our mid and late stage private clients who were maybe an IPO this year, thinking about next year, and then trying to calibrate if a private capital solution maybe one more pre-IPO round could be interesting, right? Could you diversify your shareholder base another notch, bring in a late stage mutual fund or cross over investor that could be additive to you at IPO, right? Just some things around giving the business or providing the business with another shot in the arm, some growth capital. It could buy a little bit of time to push out the IPO window if needed. And to your point, I think bridging to that visibility and building a P&L and a balance sheet that public equity investors are gonna be highly receptive to, and then could that be amplified or solved? Or could a company be fairly intentional with doing a pre-IP round now to give them some breathing room or some more optionality heading into 2025 is definitely something that we're thinking more about holistically with a few of our pre-IPO clients. Well, to recap today, we dived into recent market activity in equity capital markets, discussed the performance of tech stocks, examined earnings themes, looked ahead to the rest of the year, talked a little bit about our privates business and what we're seeing there. Huge thanks to Nadine Yang for joining me.

Nadine Yang: Thanks for having me here.

John Zimmerman: Thank you for the listeners for turning into another What's The Deal? episode. We hope you enjoyed the conversation. I'm your host John Zimmerman. Until next time, take it easy.

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