Are better times ahead for technology stocks?

When a young Isaac Newton witnessed an apple falling from a tree in the late 1600s, it inspired him to develop his law of gravity.

More than 300 years later and, having become the first company to reach a market-cap of $3 trillion in January 2022, Apple Inc is being reminded of those same gravity laws. The stock price is down around 23%* year to date. As we like to warn in the investment world, “what goes up can come down”.

A tough year for internet stocks

After quite an amazing run over the past few years, 2022 has been a tough year all round for tech investors. The Nasdaq 100 Index – often considered to be barometer for how well the technology market is performing – has fallen almost 25% in US dollar terms over the past 12 months**. And, as this chart below from June this year shows, many other internet and tech darlings have been, well, hammered.

Nasdaq 100 stocks drawdown from 12-month highs

^{Source: Bloomberg, Redwheel, 30 June 2022}

“In response to rising interest rates and general tightening of monetary policy globally we’ve seen a severe impact on more speculative areas of technology,” commented Peter Ewins, manager of The Global Smaller Companies Trust.

“Similarly, ecommerce-related activity has been more challenged as inexperienced, growth-focussed management teams struggle to adapt to an inflationary backdrop they’ve never confronted, at the same time as traditional sales channels have re-opened as the pandemic situation has eased.

“After several years of outperformance investors will need to be more discerning in the technology sector in the years ahead.”

Is now the time to buy?

It’s hard to imagine that the amount of technology we will use in our everyday lives will decrease in future. So, over the long term, there are still big structural trends of which to take advantage.

In the shorter term, it is also good to remember that many of today’s technology firms also generate decent amounts of cash, and have solid balance sheets. These are exactly the sorts of companies that can be good to hold in a recessionary environment, and are available today at much better prices.

The manager of The Global Smaller Companies Trust, agrees that several mega trends are likely to support strong fundamental outlook for the technology sector in the medium term.

“We are most interested in companies that support new societal goals such as reshoring, supply chain integrity and decarbonisation, as spending in these areas is likely to remain strong in a more challenging macro backdrop,” he said.

“The semiconductor sector should be a beneficiary of these trends as the US supports domestic production goals, and companies continue to deploy ‘internet of things’ solutions that improve their efficiency and reduce reliance on labour.

“One of our favoured names in this area is Nordic Semiconductor, a provider of low power connectivity solutions behind products like the Apple Airtag. We expect strong growth in connected devices across both consumer and industrial applications.”

Investing in lesser-known names

Simon Edelsten, co-manager of the Mid Wynd International Investment Trust, also told us recently that the correction in tech stocks had given him the chance to buy shares in some lesser-known quality tech companies.

“One area we particularly like relates to the ageing population,” he said. “We have bought shares in Sonova, the Swiss-based global leader in manufacturing digital hearing aids. A couple of years ago its valuation would have made us gulp, with the price-earnings ratio approaching 45x. Today, its shares are trading closer to their long-term price-earnings multiple of 25x. We’ve also added Japanese eyeglass manufacturer, Hoya.

“With growing opportunities in emerging markets, and so many commuters in the developed world blasting their eardrums with music from their headphones, Sonova is assured a strong market for its products for many years. Hoya, whose shares are down nearly 30% this year, should benefit from the huge demand for glasses in Asia, where around 80% of 20-year-olds suffer from myopia. These companies’ share prices may not have fallen as dramatically as many, but I think their growth can be reliably predicted.”

Buying stocks at better prices

In this recent podcast interview, Ben Leyland, co-manager of JOHCM Global Opportunities, also told us he had recently added shares of Adobe and Microsoft to the fund:

He highlighted the recurring revenues and sticky customers, as well as their ability to create intellectual property that can be monetised, made enterprise software businesses attractive. “These are all good companies that are on our watch list of investible companies,” he said. “We’ve been put off by valuation but have started to dip our toe into names like Microsoft and Adobe over the course of the year on weakness.”

Market could remain volatile in the short term

Jeremy Gleeson, the manager of the AXA Framlington Global Technology fund, expects markets to remain volatile while the geo-political and macroeconomic uncertainties continue.

“The long-term growth potential of many of the companies in the sector remain robust and hence valuations within the technology sector have become increasingly attractive,” he said.

“The second quarter earnings season has produced decent results for the technology sector. For those companies in the MSCI World Index (representing the broader equity market), that have reported first quarter numbers, 65% have reported better-than-expected revenues and 67% have reported better-than-expected earnings. For the technology component of the same index, the results were 57% and 69%, respectively, and for the Fund, these figures are 69% for revenues and 85% for earnings.

“We believe the long-term growth trends which the fund is exposed to are still intact, however, the strength of the economy will influence the pace of this growth. Therefore, we continue to focus on quality within our investment universe, backing management teams who we believe can steer their companies through these more challenging times.”

*Source: Google Finance, 11 October 2022

**Source: FE fundinfo, total returns in US dollars, 8 October 2021 to 10 October 2022

^{Photo by Lucas Ludwig on Unsplash}