by BLOOMBERG / graphic by MZUKRI MOHAMAD
WASHINGTON • So much for that rotation into value. Technology stocks are back on investors’ shopping lists once again, regardless of their valuations.
Just a month ago, the shares of faster-growing tech companies were being pummelled amid fears that hot inflation readings would push interest rates higher.
While consumer prices did indeed jump, interest rates actually have fallen as investors bet that the inflation surge will be short-lived. That’s made expensive but promising companies like software makers attractive again.
A Goldman Sachs basket of software stocks that trade for at least eight times sales is at the highest in three months after a rally of 27% since May 13. Mega-cap favourites like Facebook Inc, Alphabet Inc and Microsoft Corp are back near records after gains over the same span.
The resilience underscores the conviction among fund managers with long-term time horizons that the prospects for tech’s growth stocks remain bright as the reopening of the US economy continues to gain steam.
These companies “have strong business models and the tailwind of megatrends from the pandemic that have only gotten stronger”, said Saira Malik, CIO for global equities at Nuveen, which has US$1.2 trillion (RM5 trillion) in assets under management. “That’s why they demand a premium.”
The US Federal Reserve’s (Fed) acknowledgment last week of risks posed by inflation and the signal that it’s prepared to raise rates earlier than expected did little to dampen enthusiasm. The Nasdaq 100 Index rose to a record the day after the Fed meeting with an advance of 1.3%, though it gave back some of those gains last Friday.
Some of the stocks with the highest valuations have rallied the most over the past month. For example, infrastructure software company Cloudflare Inc, which trades at 51 times projected 2021 sales, and DocuSign Inc, the electronic signature company priced at 26 times estimated sales, are both up more than 50% since the middle of May.
The prevailing belief on Wall Street continues to be that the spike in inflation will be brief. A recent Bank of America survey of fund managers found that nearly three-quarters don’t expect elevated inflation to be long lasting. That is alleviating concern that rising interest rates would kill demand for tech stocks that have priced in a lot of optimism about growth in the distant future.
“We’re clearly in a time frame where human beings are getting paid more, but I don’t believe that’s going to spiral upwards out of control,” said Kim Forrest, CIO at Bokeh Capital Partners.
Forrest isn’t changing the make-up of her portfolio due to inflation and likes semiconductor makers like Micron Technology Inc and Xilinx Inc, which is being bought by Advanced Micro Devices Inc in an all-stock deal. Old guard, dividend-paying technology companies — which outperformed this year amid a rotation into value stocks — have lost some of their lustre recently.
Database software company Oracle Corp, which boasts a 1.7% dividend yield, tumbled last week after a disappointing earnings report. It’s now down 10% from a June 8 record. More broadly, the Russell 1000 Value Index has lost nearly 5% in two weeks.
Companies like HP Inc are still benefitting from higher demand for personal computers. Still, in the long run, growth at many of these more-mature companies will cool, according to Daniel Morgan, a senior portfolio manager with Synovus Trust Co. He said he’s been adding to positions in companies like software maker Adobe Inc that are poised to expand at a faster clip and generate higher profits over the long term. Of course, not everyone is blasé about inflation.
JPMorgan Chase & Co CEO Jamie Dimon said this week he’s preparing for more inflation and higher interest rates. Hedge fund manager Paul Tudor Jones told CNBC if he were on the investment committee of a pension fund, he would “have as many inflation hedges on as I possibly could”.
Despite the recent gains for fast growers, many tech stocks remain cheaper than they were earlier in the year thanks to improving profits. The average price-to-earnings ratio in the Nasdaq 100 stands at 37, down from a high of more than 40 in February.
For Nuveen’s Malik, there are still bargains to be found in higher valuation stocks and she expects earnings growth will continue to fuel gains. She likes software makers such as Salesforce.com and HubSpot Inc.
“Software companies are still very leveraged to the reopening as companies are looking for ways to leverage economic growth,” she said. “We would not count out software”.