Previously, the Fed has been signaling that they will keep raising rates as long as inflation stays elevated (Fed has signaled more increases are in the deck after the most recent meeting that increased Federal Fund’s to 5.0%), even if it means increasing Unemployment. Overall, the markets are viewing the Tech sector’s, despite deaccelerating profit growth, massive cash balances as a safe haven as compared to the banking sector as funds rotate out of financials into other S&P industry groups. The Tech space is a mixed bag with Social Media/Internet, Smart phones and PC’s exhibiting a dramatic slowdown. While in contrast, the datacenter and enterprise software segments have remained somewhat buoyant.
Is the recent strength in the Technology Sector just another head fake that will repeat the same Bear Market Rally cycles we saw in 2022? In 2022 the broader market rallied five consecutive times only to be stamped out each time as another wave of negative news impacted the market. See chart. Will this cycle repeat itself in 2023?
Is value investing within the technology sector actually working? With market technicals now favoring the bears, there seems to be a flight to value within the technology sector, as lower multiple, more mature growth names are out-performing their once high multiple, fast-growth brethren. For example, the once high-flying darlings like Amazon (-39% past 12-mths) and Alphabet (-25% past 12-mths) have gone through a drastic reevaluation of expectations for their future profit growth.
In contrast, more mature lower multiple technology names like Oracle (+7% past 12-mths), ADP (+2% past 12-mths) and Analog Devices (+14% past 12-mths) have posted respectable returns so far this year. To that end, these battle-tested mature growth companies, like Oracle have strong cash-flow, healthy share repurchase programs, and pay a decent dividend yield. The market seems to be favoring lower P/E ratio, well capitalized technology names over other sectors like financials.
Even old favorites like Apple (-5% past 12-mths) and Microsoft (-9% past 12-mths) have come back into favor. These old school FAAMG stocks have hordes of cash on their balance sheets and are equipped to whether any storm. During past downturns many of the large mega-cap Technology stocks like Apple and Microsoft were not as nearly as well capitalized as they are today. Both Apple and Microsoft have a combined Market Cap of $4.527.8 Tn, representing 14% of the total market cap of the S&P 500 Index. This is a combined market cap that is more than entire industry groups within the S&P 500 Index. Further, these names hold huge piles of cash on their balance sheets – Apple $202.6 Bn and Microsoft $132.4 Bn. Many of these top technology stocks could use their cash to sustain themselves during an economic hailstorm.
So, with technology value stocks outperforming growth, many investors are wondering when they should dust off the post Covid-19 playbook and dive back into Tech. Until this Fed cycle plays out it will be difficult to find the inflection point where popular beaten down names like Snowflake (-35% past 12-mths) or Advanced Microdevices (-17% past 12-mths) shares finally find a bottom. Finally, in the Technology sector today the best offense appears to be solid defense.
Daniel Morgan, Senior Portfolio Manager