Investors weigh how far tech stocks can slide after volatile week
As U.S. technology shares stumble, investors are debating whether the decline is an opportunity to scoop up bargains or a sign of more pain to come for stocks that have led markets higher for years.
The Nasdaq Composite, an index heavily populated by tech and growth names, has slumped 8.3% since its Feb 12 closing record, over three times the decline for the S&P 500. Drops in popular growth stocks have been even steeper, with Tesla shares off 27% and Peloton down 32%.
Taking advantage of pullbacks in names like Apple and Amazon has been a winning strategy over the last decade as big technology and growth stocks drove the market’s gains. In a sign some bargain-hunters may have already swooped in after a bumpy week, the Nasdaq reversed a steep loss during Friday’s session to end up 1.6%.
Some market participants, however, worry the current decline could be longer-lasting than previous dips, as expectations of a powerful U.S. economic recovery fuel a shift away from the “stay-at-home” trade towards names primed to benefit from a nationwide reopening. A surge in bond yields is accelerating that rotation, with the benchmark 10-year Treasury yield hitting 1.625% on Friday, its highest level in over a year.
“As the economy reopens, other sectors are going to have fantastic earnings growth,” said Ed Clissold, chief U.S. strategist at Ned Davis Research. Earnings increases for the large tech and growth stocks are “not going to look nearly as good.”
Data on Friday showing U.S. employment rising more than expected in February offered further evidence of a rebounding economy.
Investors are awaiting the March 16-17 Federal Reserve meeting, after comments from Fed Chair Jerome Powell gave little indication that the central bank was concerned by the recent yield rally.
The rise in Treasury yields, which move inversely to bond prices, means bonds offer greater competition to equities and other comparatively risky investments. Higher yields can weigh even more on tech and growth stocks with lofty valuations, as they threaten to erode the value of their longer-term cash flows.
The S&P 500 technology sector has pulled back 7% since yields began their latest surge in mid-February, while the Russell 1000 growth index has fallen 7.7% against a 1.8% gain for its counterpart value index, which is replete with bank and other stocks expected to gain in a rebounding economy.
Chase Investment Counsel, a wealth management firm, has scaled back its tech holdings in recent weeks, including selling some Apple and Qualcomm shares, over concerns about their valuations and evidence the market was rotating elsewhere, said Chase President Peter Tuz.
“Clearly the stocks are not acting well compared to a lot of other groups out there,” Tuz said. The economic rebound is also likely to give a strong boost to earnings in beaten down sectors, taking the shine off some technology companies’ expected results.
Profits for the financials, materials and industrials sectors in 2021 are estimated to jump 23%, 34% and 72%, respectively, according to Refinitiv IBES, compared to a 15% rise for tech companies.
At the same time, valuations in the sector remain historically elevated. At 26.6 times forward earnings, the technology sector’s valuation has pulled back but it remains well above its historical average of nearly 21, according to Refinitiv Datastream.
Still, some investors believe the pullback could be an opportunity to buy, pointing to tech companies’ solid profitability that can persist even after the earnings rebound in the broad economy peters out. While elevated historically, the sector’s valuation is also well below levels during the dot-com bubble 20 years ago, that saw the Nasdaq drop over 50% in less than a year.
“The health of tech today is so far superior to what it was,” said Daniel Morgan, senior portfolio manager at Synovus Trust. “I am still optimistic and I still think that the fundamentals are solid. I don’t see a huge pullback like in the summer of 2000.”
