IN­VEST­MENT TRUSTS

As NAS­DAQ sets new records the tech sec­tor is fac­ing re­newed val­u­a­tion ques­tions

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This is not the time to turn your back on tech­nol­ogy stocks

On 29 Au­gust the NAS­DAQ com­pos­ite, led by pop­u­lar tech­nol­ogy FANG stocks (Face­book, Ama­zon, Net­flix and Google – of­fi­cially called Al­pha­bet) set a new record high, clos­ing at 8,109.69. Year to date the in­dex is up 15.7% com­pared to a 7.6% gain for the wider S&P 500.

Add Ap­ple and Mi­crosoft to the FANG gang (their rel­a­tive size and in­flu­ence de­mands we do), those six stocks have chalkedup an aver­age 38% share price re­turn in 2018, and no­tably that en­com­passes a 2% de­cline for Face­book. No won­der talk of a tech bub­ble has re­turned and peo­ple are won­der­ing if the space is over­val­ued.

‘The most com­mon ques­tion I get asked as an an­a­lyst is whether we are head­ing for an­other crash like that in 2000,’ says Richard Hol­way, a long re­spected tech­nol­ogy an­a­lyst and founder of the web­site TechMar­ketView.

Re­cent re­ports of hedge fund ro­ta­tion out of the tech­nol­ogy space and grow­ing short po­si­tions in pop­u­lar tech stocks have helped fuel these con­cerns.

The big­gest con­cern for in­vestors is val­u­a­tion. Mar­ket dar­ling Ad­vanced Micro De­vices (AMD) is this year’s best per­form­ing Nas­daq share, up 128% this year leav­ing it on a 2018 price to earn­ings (PE) mul­ti­ple of 47.2. There are other stocks on even higher ratings.

So it is in­ter­est­ing to find that Al­pha­bet, Face­book and Mi­crosoft all trade on PEs of less than 30, while Ap­ple’s next 12 months ra­tio is 16.6, ac­cord­ing to Reuters’ data.

‘At the end of July 2018, Mi­crosoft was the third largest con­stituent of the MSCI All Coun­tries World Growth In­dex and the fifth largest in the equiv­a­lent Value In­dex, whilst at one stage last year Ap­ple topped both the MSCI Growth and Value Indices,’ says Peter Askew, chief ex­ec­u­tive of­fi­cer of Not­ting­ham-based fund man­age­ment bou­tique T Baile As­set Man­age­ment.

PARTY, BUT IT’S NOT LIKE 1999

Mul­ti­ple rea­sons stand between the tech bub­ble of 1999/2000 and now. To­day’s com­pa­nies are (largely) hugely prof­itable with enor­mous cash-sup­ported bal­ance sheets and many rev­enues lines.

But per­haps the big­gest sin­gle dif­fer­ence is how tech­nol­ogy is now em­braced and used, per­me­at­ing ev­ery in­dus­try sec­tor and the ev­ery­day lives of or­di­nary peo­ple. Back in 2000 most busi­nesses could op­er­ate quite hap­pily with­out the in­ter­net, emails or smart­phones.

What tech­nol­ogy in­vest­ment ex­perts be­lieve is ev­i­dent is that earn­ings growth is pro­vid­ing am­ple sup­port for ris­ing share prices. ‘higher valu­a­tions largely re­flect a strength­en­ing US

econ­omy, im­proved tech­nol­ogy fun­da­men­tals and ro­bust cor­po­rate earn­ings,’ says Ben Ro­goff, man­ager of Po­lar Cap­i­tal Tech­nol­ogy Trust (PCT),

‘I still like tech,’ says Lars Kreckel, an eq­uity strate­gist at Le­gal & Gen­eral In­vest­ment Man­age­ment. ‘Al­pha­bet and Ama­zon de­liv­ered an­other set of ex­pec­ta­tion beat­ing quar­terly re­sults,’ he says, even if Face­book, for the sec­ond time this year crashed the party after warn­ing of slow­ing earn­ings growth in July.

‘The mar­ket re­ac­tion to Face­book’s re­sults has been a use­ful re­minder that the sec­tor is not in­vin­ci­ble,’ says Kreckel after more than 20% was wiped off the so­cial me­dia plat­form share price.

Wal­ter Price, man­ager of Al­lianz Tech­nol­ogy Trust (ATT),

drew at­ten­tion to Ap­ple, whose sec­ond quar­ter re­sults were bet­ter than ex­pected. ‘The real sur­prise for us was the ser­vices busi­ness, par­tic­u­larly iTunes and iCloud which both grew ahead of ex­pec­ta­tions,’ Price says.

‘We saw that the cloud com­put­ing theme con­tin­ues to ex­pand, with providers gen­er­ally meet­ing or ex­ceed­ing mar­ket ex­pec­ta­tions,’ says Price.

A FEW GOOD STOCKS

This has led to claims of po­lar­i­sa­tion of stock per­for­mance, with a rel­a­tively small num­ber of strong per­form­ing share prices driv­ing the lion’s share of stock mar­ket re­turns. The S&P 500’s five largest com­pa­nies (all tech firms; Ap­ple, Al­pha­bet, Mi­crosoft, Ama­zon, Face­book) are worth 16% of the en­tire in­dex.

This some ex­perts be­lieve is of­ten a warn­ing signs of an over-in­flated stock mar­ket. Yet there would seems to be some in­evitabil­ity about this when fund man­agers are of­ten fo­cus­ing on buy­ing only the big­gest and best in class within a niche in­dus­try or mar­ket.

‘History shows that stock mar­ket re­turns are driven by a small group of big win­ners and it is the job of the in­vest­ment

man­ager to iden­tify such com­pa­nies and then in­vest in them with con­vic­tion,’ that’s how James An­der­son and Tom Slater see it.

They run the Scot­tish

Mort­gage Trust (SMT), one of the UK’s most pop­u­lar in­vest­ment trusts, and while not strictly a tech fund, its fo­cus on long-term growth op­por­tu­ni­ties means many of the FANG+AM stocks sit in the port­fo­lio – Ama­zon is its big­gest hold­ing and is worth 10.2% of its in­vested funds.

Po­lar Cap­i­tal Tech­nol­ogy’s Ro­goff points out dig­i­tal trans­for­ma­tion and pub­lic cloud stocks such as Twillio, RingCen­tral, Five9, An­sys, Cognex, GrubHub ‘all re­port­ing strong quar­ters,’ which helps il­lus­trate the broader spread of per­for­mance than many in­vestors may re­alise.

The tech­nol­ogy sec­tor’s price to earn­ings mul­ti­ple ex­pan­sion may be run­ning out of steam, be­lieves Ro­goff, yet this could be a pos­i­tive for share prices as in­vestor turn their at­ten­tion on the un­der­ly­ing su­pe­ri­or­ity of earn­ings within the sec­tor.

This could mean a nar­rower group of win­ners drive strong re­turns, bring­ing us back to the po­lar­is­ing ef­fects po­ten­tially at play on global stock per­for­mance.

‘If we are cor­rect, this should con­tinue to favour our growth cen­tric in­vest­ment ap­proach,’ be­lieves Ro­goff.

‘That’s not to say that a cor­rec­tion won’t hap­pen,’ points out Richard Hol­way, but ‘I think that it’s the global econ­omy as a whole that runs the great­est risk - it is not tech spe­cific.’ (SF)

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