Technology shares surrendered their leadership in the U.S. stock market over the past month, but the fast-expanding group may soon resume its outperformance and manoeuvre back into pole position.
Approaching earnings reports for the technology sector, for which profits are expected to outpace the overall S&P 500 for the 11th consecutive quarter, could lure back investors who have been concerned about expensive valuations and that too many people may have piled into the big names.
The sector has slumped 4 per cent since the first week of June, while financials have climbed more than 5 per cent and health care has gained 3 per cent. This has prompted speculation that investors may have been cashing out their tech profits to move into those groups.
“Technology has taken a rest, but it’s going to heat up again, and I see tech returning to favour the second half of the year,” said portfolio manager J. Bryant Evans of Cozad Asset Management in Champaign, Ill.
For the first five months of 2017, tech was the talk of the stock market, far outperforming the other 10 major S&P 500 sectors and sparking the Nasdaq composite to its strongest first half since 2009.
“I think of [tech’s recent swoon] as profit-taking rather than driven by change in the fundamental factors,” said John Praveen, chief investment strategist of Prudential International Investments Advisers in Newark, N.J.
Analysts estimate tech’s second-quarter earnings rose 11.2 per cent, with semi-conductor companies accounting for much of the gain, according to Thomson Reuters I/B/E/S. The increase tops the estimated 7.9-per-cent rise for the overall S&P 500 and is well greater than every sector except for energy, whose performance will be skewed because of negative year-earlier results.
“The tech sector has the highest growth expectations and only moderate uncertainty,” Morgan Stanley equity strategists said in a research note.
Given tech’s outsized position – 22 per cent of the market value of the S&P 500 – the sector’s growth is critical to overall U.S. corporate profit gains. For the second quarter, tech profit growth alone is expected to account for nearly 28 per cent of the S&P 500’s overall increase in earnings, or nearly half if energy are excluded.
“In an economy that still seems to have some growing pains, consistent growth is worth paying up for,” said Peter Tuz, president of Chase Investment Counsel in Charlottesville, Va.
Tech’s second-quarter revenue growth is projected at 7.2 per cent, faster than 4.6 per cent for S&P 500 companies overall, according to Thomson Reuters I/B/E/S.
Valuations for the sector also may not be so expensive. Tech is trading at 18.1 times earnings estimates for the next 12 months, just more than 17.8 times for the overall market. That difference is even smaller when compared with the premium tech has held over the past 15 years, following the dot-com bubble. Over that time, its average price-to-earnings ratio has been 17.2 times compared with 14.7 times for the S&P 500.
Another factor in tech’s favour: The U.S. dollar’s 6.1-per-cent decline this year against a basket of major currencies.
Clues will come starting on July 14, when a big batch of U.S. bank reports kicks off the heart of the earnings season.
In tech, Microsoft Corp. and International Business Machines Corp. report the following week, while Alphabet Inc., Facebook Inc. and Intel Corp. are among the companies to follow later in July.