The tech-heavy NASDAQ Composite Index hit a historic high two weeks ago, marking an 85% surge since its October 2022 low of 10,089 points.
Back then, fear gripped investors, as I noted in a Business Times article (edited for brevity):
“With dark clouds gathering around the global economy, stocks are cheaper today than in the past two years.
Yet, fear paralyses investors, despite the abundance of data and analysis.”
Fast forward to today, and fear remains—just in a different form.
Those invested are worried about a downturn, while others debate whether to buy now or wait.
No one wants to invest today only to see the market plunge tomorrow.
Hitting all-time highs
The 2022 downturn is over, but the battle scars remain.
Investors remember it well: those who bought at the 2021 peak subsequently suffered a 33% decline in the NASDAQ in 2022.
The pain of seeing your money shrink by a third is hard to forget.
Yet here’s a surprising fact: the NASDAQ is now 16% higher than its 2021 peak. Even those who bought at the worst moment are sitting on gains today.
There are stocks that did even better.
For instance, since the 2021 peak, shares of Meta Platforms (NASDAQ: META) have risen by over 60% at the end of last month. Meanwhile, shares of Latin American online retailer MercadoLibre (NASDAQ: MELI) are around 34% above where they were three years ago.
Alas, these examples may not be enough to convince the critics.
Why do stock prices rise?
Critics would argue that a rising tide lifts all boats.
But let’s dig deeper. A stock’s price is driven by two key factors:
- Free cash flow (FCF) per share
- Price-to-FCF (P/FCF) ratio
Multiply the two numbers and you get the share price.
In other words, these two factors can influence the direction of the share price.
If FCF per share grows while P/FCF stays constant, the share price will rise by the same percentage as FCF growth.
As investors, we would like the share price increase to be backed by FCF per share growth.
So, what happened between the 2021 peak (19 November 2021) and today (15 November 2024)?
The table below provides a summary.
| 19 Nov 2021 | 31 Oct 2024 | % increase | |
| Share price | US$345.30 | US$554.08 | 60.5% |
| FCF per share | US$12.49 | US$20.04 | 60.4% |
| P/FCF | 27.6 | 27.6 | 0% |
As you can see from the summary above, the entirety of the share price gain was driven by the increase in Meta’s FCF per share which rose by over 60% for the period above.
In comparison, the P/FCF was unchanged.
Said another way, Meta’s share price gain was not due to over-optimism in the stock market but rather actual business gains.
Get Smart: The drivers of value
You can choose to speculate over what will happen next in the stock market.
Many have tried and failed.
Or you can take a long-term view and study the business; watching how the business (in this case, represented by the FCF per share) does the heavy lifting to increase the share price.
If you choose the right stocks, the increases in FCF per share will far outweigh whatever short-term fluctuations the stock market will throw at you.
Yes, even 2022’s bear market.
Importantly, investing doesn’t have to happen only at market peaks.
In bull or bear markets, wealth is built by choosing the right growth stocks.
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Disclosure: Chin Hui Leong owns shares of Meta and MercadoLibre. Figures as of the market close on 16 November 2024 (Singapore time).
