One quarter down and it’s so far, so good for the tech sector.
(Bloomberg) — One quarter down and it’s so far, so good for the tech sector.
Results this earnings season have mostly come in better than feared, and share prices have responded positively. Yet looking to the rest of the year, many investors continue to harbor concerns about growth and valuation.
Olivier Sarfati, head of equities at GenTrust, is “very cautious” of the outlook for the sector, despite what he described as a “great” season for big tech. “You need to see additional growth to justify gains beyond what we’ve already seen, and that will be difficult,” he said.
The tech-heavy Nasdaq 100 Index has risen less than 2% since April 18, when Netflix Inc. reported as the first of the widely watched technology and internet group, outpacing the S&P 500’s 0.8% decline over the same period. That’s extended the tech-heavy index’s year-to-date gain to 22%, pushing valuations to elevated levels. Apple Inc. and Microsoft Corp. both saw pronounced post-earnings rallies, and are among the notable names trading at premiums to both the market and their own history.
The Nasdaq 100 Index was little changed on Monday.
Justifying such multiples could prove difficult in a slower-growth environment, with Bank of America Corp. strategists among those who expect a recession to reverse tech’s rally.
Sarfati cited a number of headwinds that could weigh on the sector beyond its valuation and growth prospects, including a wider fallout from turmoil in the banking sector, and inflation staying high and leading to a rebound in Treasury yields, a key headwind behind tech’s 2022 selloff.
“I worry about 2024 earnings because I don’t think estimates have been brought in enough, and there are only so many times tech can go to the cost-cutting well to generate upside,” he said. “I suspect headwinds will start blowing stronger and stronger until we really feel it.”
With concerns having been high ahead of earnings season, most tech companies have cleared a lowered bar. According to data compiled by Bloomberg, 86% of those in the S&P 500 have topped estimates for profit, while 76% have for revenue.
Still, the full-year outlook is gloomy. Earnings for the S&P 500 tech sector are expected to decline 8.8% this year, while revenue is seen falling 1%, per Bloomberg Intelligence. That compares with a drop of 2.5% for earnings in the overall S&P 500, which is expected to see revenue growth of 1.9% this year.
Growth in both earnings and revenue is expected to accelerate next year, eclipsing the pace of the S&P 500, but analysts have been trimming their 2024 expectations. Currently, they expect tech earnings growth of 15% in 2024, compared with the 16% pace expected a few weeks ago. Estimates for revenue growth have also come down.
With stocks rising and profit estimates falling, the tech sector is getting more expensive. At 24 times projected earnings, the Nasdaq 100 is above its long-term average and within spitting distance of the highest in more than a year.
“People have been hiding out in big tech, but now a lot of expectations have been built into the idea of them as stable growers, and they will have to live up to that to continue to support these valuations,” said Anthony Saglimbene, chief market strategist at Ameriprise Financial. “This has been a good earnings season relative to our worst fears, but the growth rate is naturally slowing, and if there is a more material downdraft in fundamentals, the sector might be pressured.”
Tech Chart of the Day
Apple’s 33% year-to-date rally has given the iPhone maker a market capitalization of $2.71 trillion, exceeding that of the Russell 2000 Index for the first time since 2020. The index of small-cap stocks has fallen 1.2% this year, cutting its value to $2.62 trillion.
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–With assistance from Subrat Patnaik.
(Updates to market open.)
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