S&P Drops 3.3%, Semi Stocks Deflate, and Fed Cuts Loom: Navigating Market Turbulence
Market Overview
Tough week in the market as the pullback I was expecting came quicker and more severe, with the SPX finishing the week down 3.3%, while IWM continues to underperform and was down 5%. Economic slowdown is clearly the scenario starting to get priced in, as the tech sector, energy, and materials led on the way down, while staples—despite being overpriced—real estate (benefiting from lower rates), and utilities (boosted by both rates and AI power demand) were the leaders. Semiconductors, which have been riding the AI capex cycle, let some air out and finished the week down 10%, though they are still up 22% YTD. Retail continued to lag on the expectation of a weakening consumer.
Rates continued to trend lower, and the 2/10 curve un-inverted, now in positive territory as the onset of the Fed’s hiking cycle in September is all but assured. Progress on inflation is becoming clearer, and the risk to the downside for economic growth is starting to outweigh inflation concerns. The Fed has clearly stated that quicker cuts will come if they see softening in the labor market. In his last Q&A, Powell said that it’s “unexpected deterioration in labor market conditions” that would be most likely to warrant a policy response. The job market has normalized from tight levels, as seen by the ratio of job vacancies to unemployed workers, which is now back to pre-COVID highs. Nonfarm payrolls continue to run at a healthy clip, although the quality of jobs created has been deteriorating. Part-time workers for economic reasons now stand at 4.8 million, up 600k compared to a year ago. While the job market is still healthy compared to historical standards, things are clearly slowing down and could exacerbate to the downside quickly. Some are calling for the Fed to cut 50 bps, but given the totality of still-healthy data, I don’t see that happening. Instead, I expect the Fed to begin a gradual rate-cutting cycle.
US Consumer Bifurcation
The US consumer is clearly bifurcated. The top 20%, who own assets like real estate and stocks, have benefited from asset price appreciation over the past few years, while the bottom 20%, who are renters with fewer assets, have felt the pinch of inflation and a lack of wealth appreciation. The percentage of balances transitioning into delinquency is well above pre-COVID levels for credit cards and auto loans—debt that lower- and lower-middle-class consumers tend to carry more of.
Looking forward, the Fed will cut rates by 25 bps in September and most likely another 25 bps at each subsequent meeting if economic data and inflation continue to soften. With the VIX up 41% for the week at 22, the market is pricing in a 120 (+/-2.2%) point move next week. I sold the majority of my put butterflies and spreads this week, and I anticipate a pause or bounce as we enter some support areas, with index constituents looking oversold on short time frames. The market is not cheap, and my bias is for downside earnings revisions as we move into 2025, so I will be looking to add short exposure on any meaningful rally.
Earnings Breakdown
AVGO 0.00%↑
The largest company to report earnings this week was Broadcom, which has heavy exposure to the AI capex cycle via ASICs and networking equipment. Earnings were fine, but the market was disappointed as AI-related revenue came in with much less upside compared to expectations, and the stock got punished. The quote making the rounds was Tan saying he changed his thinking on the GPU vs. ASIC debate and now believes ASICs will challenge GPUs in high-scale AI operations. ASICs make sense when performance-per-watt and cost efficiencies are critical. Inference workloads, where custom optimization is more important than the general purpose of GPUs, make sense. Broadcom’s ASICs are custom-tailored for specific high-demand AI operations, such as cloud computing and network management, allowing them to achieve superior efficiency and performance-per-watt, making them ideal for large-scale deployments. Hock Tan highlighted the competitive pressures Nvidia faces, especially with its high 60% EBIT margins attracting more players like hyperscalers developing custom ASICs. While Nvidia is an exceptional company with dominant AI leadership, investors need to separate the idea of a great company from a great stock. At a $2.5T market cap, much of Nvidia’s future growth may already be priced in, and as hyperscalers increase competition, investors might not be compensated adequately for the growing risks in the AI hardware space. While AVGO trades at a premium to its historical multiples, the valuation at $140/share seems reasonable given the early innings of the AI tailwinds and the bottom of the non-AI business.
GWRE 0.00%↑
Guidewire, a cloud-based platform for P&C insurers, combines core operations, digital engagement, analytics, and AI. Its key products—InsuranceSuite Cloud, InsuranceNow, and InsuranceSuite for self-managed setups—cover the entire insurance lifecycle, from policy administration to claims management. Guidewire also offers data analytics, enabling insurers to manage risks and operational efficiencies. Their solutions, hosted on AWS, are aimed at global insurers and available via subscription or term licenses, supported by professional services for deployment and integration. GWRE delivered strong Q4 results, and shares were up almost 10% after hours. Cloud momentum drove 19% ARR growth, and operating cash flow far exceeded expectations. With FY25 guidance largely in line, the standout was operating cash flow guidance well ahead of consensus. GWRE's continued success in cloud adoption, including 16 new cloud deals, signals resilience in an uneven macro environment. The shift to cloud remains key, with win rates over 60% and increasing demand across insurance tiers. At annual revenue of just under $1B, GWRE has room to continue growing the topline, given current estimates peg the core P&C software TAM at roughly $10-15 billion, with potential expansion into adjacent markets such as life insurance. Additionally, as insurers shift from legacy in-house systems to cloud-based solutions, Guidewire could capture an even larger share of this growing market, further boosting its TAM. They are the clear leader in the P&C software space with 25% DWP running through their software, more than double their nearest competitor. Its product is sticky, with a churn rate below 1%, even amidst cloud conversion and management's efficiency goals. High win rates and expansion into adjacent markets like life insurance could accelerate growth. Software investors' favorite topic, SBC, is relatively high at 14% of revenue, and share dilution needs to be accounted for when looking at potential forward returns. This is another case of a great company, executing extremely well on all fronts, but the stock seems to be extrapolating this execution forward, leaving little room for margin of error. Assuming GWRE continues to expand their TAM and efficiency and is able to generate ~$500M in FCF by 2028 at today’s EV of $13B, the stock would need to trade at over a 45x FCF multiple in 2028 in order for investors to generate a 10% annualized return. While they are a great company holding a large market share in their niche, the stock is tough to own at these levels.
BRZE 0.00%↑
Braze stands out in customer engagement by offering a vertically integrated platform that combines real-time data ingestion, orchestration, and personalized multi-channel action. Its SDK is embedded in customer apps, providing valuable insights into user behavior and enabling timely, contextual messaging across channels like email, SMS, in-app notifications, and even smart TVs. Braze's proprietary real-time streaming architecture enhances message relevance by processing data instantly. The platform's Canvas tool allows marketers to easily design and test campaigns, while its Alloys partner network, including Snowflake, helps with seamless integrations. Braze’s MAU-based revenue model, which charges based on total consumer reach, may buffer against macroeconomic headwinds. The second-quarter results were solid, with revenue beating estimates by 3% and profitability continuing to improve. Subscription revenue grew 28% YoY, driven by continued enterprise momentum, including securing two 8-figure deals and growing customers with over $500K ARR by 28%. However, the stock got hammered as forward-looking metrics like billings, RPO, and cRPO decelerated, impacted by acquisition comparisons and contract renewal dynamics. Despite the deceleration in forward-looking metrics, they raised FY25 revenue guidance, reflecting strong execution and confidence in sustained growth, particularly as upsells in MAUs are beginning to return. Investors aren’t convinced that the current macro environment can support 20%+ topline growth next year. I remain bullish on Braze, holding shares at a ~$28/share cost basis and adding more during the selloff. While weaker billings and net retention rates drove shares lower, I view these issues as temporary noise, especially as renewal pressures and macro headwinds ease. Braze’s unique value proposition—its real-time data streaming architecture, SDK integration, and cross-channel orchestration via Canvas—solidifies its position in enterprise MarTech. With shares now trading at 5.5x CY EV/Sales and 4.6x next year, and with ample room for margin improvement, one doesn't need to underwrite heroic assumptions to generate an attractive forward return. The risk/reward here seems compelling to me.
GTLB 0.00%↑
GitLab) reported a strong quarter, surpassing consensus expectations and raising FY25 guidance. Revenue grew 31% YoY to $183M, driven by solid subscription growth and improved cost discipline, resulting in a 350 bps increase in operating margins. Forward-looking metrics, including billings and RPO, were strong, with RPO up 51% YoY, though DBNRR slightly declined. The company highlighted traction with larger enterprise deals and increasing adoption of its premium Ultimate tier. However, GitLab is increasingly facing structural challenges that could undermine its long-term growth trajectory. The company’s core DevOps platform is being squeezed by larger, better-capitalized competitors like GitHub (owned by MSFT) and Atlassian, both of which offer deeply integrated solutions. GitHub, in particular, benefits from a massive user base and Microsoft’s ecosystem, making it hard for GitLab to differentiate. GitLab’s pricing model also presents risks, especially as companies in the current economic climate seek to cut software costs. Despite its focus on innovation and open-source contributions, the open-source model poses limitations. GitLab may struggle to generate significant competitive moats, as its core functionality can be replicated or enhanced by rivals. While GitLab positions itself as an end-to-end DevOps platform, rivals are closing the gap quickly, integrating more advanced features at competitive pricing. On top of that, the stock is trading at 10x sales with no real profitability in sight, and I have little trust in management. This is more of a short than a long to me, and I’ll be looking for a potential short entry if it moves up near $60.
ZS 0.00%↑
Zscaler reported really solid earnings with billings growing 27% YoY, beating consensus. The stock sold off on weaker billings outlook for the first half of FY25 (weaker guidance is a theme across tech this earnings season), with management citing the “stacked effect” from weaker new business in FY23 and FY24 impacting billings growth, particularly for contracted non-cancelable billings. Essentially, many of the contracts signed during that time were smaller or delayed, and their billing schedules are carrying over into the first half of FY25, causing slower growth early in the year. However, as these contracts mature and new deals ramp up, Zscaler expects a significant rebound in billings growth in the second half of FY25. Platform expansion was strong, with emerging products like AI analytics contributing 22% of new business in FY24, up from 18% in FY23. AI-related offerings added 3 points to growth in the quarter. Large customer strength also remains robust, with the number of customers spending over $5 million in ARR growing 40% YoY, and customers spending over $1 million in ARR increasing 26% YoY, further solidifying their position in the enterprise market. While Zscaler isn’t particularly expensive at 36x next year’s free cash flow, given its solid growth rate, I’ve always found it challenging to assign high multiples to cybersecurity stocks. The nature of the space is constantly evolving, and it’s difficult for companies to build and maintain a sustainable competitive moat. With new threats emerging regularly and technology rapidly advancing, even the best-positioned companies face significant risks to maintaining long-term dominance in such a dynamic industry. There are plenty of historical examples of what were once considered top cybersecurity companies who were disrupted by newcomers. Look at Symantec, once a dominant force in cybersecurity, which struggled as new players like CrowdStrike and Palo Alto Networks emerged with more innovative, cloud-native solutions. Similarly, FireEye was once a leader in threat detection but saw its market position erode as competitors outpaced it in adapting to advanced threats. These shifts underscore how quickly cybersecurity companies can lose market share, making it hard to justify premium valuations over the long term.
PD 0.00%↑
PagerDuty reported a mixed bag with revenue and billings slightly below expectations, but profitability and free cash flow significantly ahead. The company cut its FY25 revenue guidance by $9M, reflecting delayed enterprise deal closures and shifts in revenue recognition, as larger deals push more revenue to later in the quarter. However, ARR growth stabilized at 10% for the third consecutive quarter, and management expects a reacceleration in the second half of FY25, driven by multi-year and multi-product deals. Despite solid profitability, PagerDuty faces challenges in a competitive landscape and a cautious spending environment. PD’s future as a standalone company is bleak, and anyone looking to play the stock should hope for a larger, more established player to acquire this point solutions provider to broaden their offering. The valuation is cheap at 3.3x this year’s projected revenue, but that’s justifiable given 11% topline growth on just $465M in revenue and a lack of profitability. PD is purely an M&A play and will not have a future as a standalone company.
On a separate note, I took a position in Atkore, a beaten-down manufacturer of electrical and safety products for non-residential and residential construction, as well as industrial markets. It operates through two main segments: Electrical, which provides products like conduit, cable, and accessories for electrical power systems, and Safety & Infrastructure, offering solutions for infrastructure reliability, such as metal framing and perimeter security. I’ll post more detailed thoughts on why I bought the company this week.
Disclosure: Author is long BRZE and ATKR and may initiate a short position in GTLB. Author reserves the right to buy/sell without prior notification.