(Bloomberg) – Investor love for technology stocks has cooled noticeably this year.
And while the upcoming flurry of earnings from the group provides an opportunity to relive the romance, technology faces an uphill battle when it comes to mastering the kind of addiction it once enjoyed in the stock market.
After all other sectors came under pressure in 2020, technology stocks in the S&P 500 index have pushed themselves into the background this year, being outperformed by sectors like financials and industrials, which have better growth prospects. Cops are betting that strong results and forecasts from companies like Apple Inc. will help bring technology back to the fore, but high ratings present a challenge.
“If these companies want to get back to stock price growth, they must have a good history of where and when that growth will come from,” said Kim Forrest, chief investment officer at Bokeh Capital Partners.
A rally over the past two weeks has brought the tech-heavy Nasdaq 100 index back to a record this month after rising interest rates and concerns that stocks were too expensive cut the benchmark 11% in early March. While tech again led the market in April, the group’s 9.9% increase in the S&P 500 this year still lags behind seven of the eleven other major industries.
As usual, strong sales and earnings growth is expected for the tech group. What is different this time around is that growth in much of the rest of the market will be even better this year, which is flattered by comparisons to the same period in 2020 when much of the economy closed.
According to Bloomberg Intelligence, tech companies are expected to lead the S&P 500 with revenue growth of 16% in the first quarter.
However, the prognoses for the rest of the year are not that good. Growth of only 5.6% is expected for the fourth quarter. In terms of earnings expansion, the technology looks even less attractive, with estimates in 2021 of 22% – an impressive feat that would, however, lag behind financials, industrials, consumer discretionary and materials.
It is not enough for the bears to beat these growth projections to support the highest valuations in years. At 41 times trailing profit, the Nasdaq 100 trades at its most expensive valuation since 2004.
Investors worried about valuations are underestimating the revenue growth potential of many technology companies like Microsoft Corp. and cybersecurity firm Zscaler Inc., poised to drive even more spending from companies investing in digital services, said Daniel Ives, an analyst at Wedbush Securities Inc.
“What has been lost in the noise is the massive fundamental growth stories that are taking place as part of the digital transformation,” said Ives. “It will be a dominant district for technology across the board.”
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Amazon.com Inc. is the only company in the top 5 whose revenue growth is expected to shrink this year, according to data from Bloomberg. This is no surprise considering how much core businesses like e-commerce and web services have grown in 2020 due to lockdowns in the US.
For Alphabet Inc., Facebook Inc., Apple and Microsoft, sales growth is expected to accelerate in the current fiscal years.
Amazon and Apple, the two best-performing Megacap stocks last year, outperformed the S&P 500 in 2021. Amazon grew 4.4%, while Apple only grew 1.1%.
In particular, some of the most expensive software companies have given up so far this year. Coupa Software Inc., an expense management software maker that has nearly 30 times its projected revenue this year, is down more than 20%.
For some investors, elevated valuations are not so easily ignored.
“Tech stocks have historically been extremely expensive,” said Michael O’Rourke, Jonestrading’s chief market strategist. “Even if the optimistic profit forecasts are met, the market would still be very expensive.”
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