A Tale of Two Tech Sectors
Allianz Global Investors
By Kristina Hooper
March 26, 2012
March is a good time to talk about tech because it’s when investors witnessed the infamous noise heard ‘round the world: the bursting of the dot-com bubble 12 years ago. And while their ears might still be ringing from the blast, when it comes to technology stocks, a little perspective goes a long way.
Once cast as the pariah of prudent investing, tech is starting to earn its way back into the hearts and minds of investors. In 1999, irrationally bullish sentiment drove tech valuations to lofty heights with little regard for actual profits. Today, the tech sector is among the most attractive and fundamentally sound areas of the economy.
In March 2000, the forward P/E on technology stocks was 54 times earnings, more than four times the S&P 500 Index. Now, the forward P/E on technology stocks is 13.32, a shade above of the S&P 500. Return on equity for the tech sector is much higher today than it was in 2000, beating the equity earned on income for the S&P 500 by a wide margin.
Companies that were largely hopes and dreams more than a decade ago are, for the most part, either long dead or thriving, with the survivors sporting significant amounts of cash on their balance sheet and perhaps even paying a dividend. The dividend yield on the tech sector has risen to 0.9% from 0.15% in 2000. Tech companies like Microsoft, which had been philosophically opposed to dividends, not only started paying one, but also have since increased it.
This is not surprising when you consider that, according to ISI, over the past two years, overall corporate cash has risen to $2.2 trillion from $800 billion—a 59% increase. The ratio of cash to GDP is at a record high. The average amount of cash on tech-company balance sheets is roughly double that of the overall market. Apple’s recent announcement that it would begin paying a dividend is emblematic of the changes underway within the technology sector with even higher-growth tech companies joining the dividend-paying fray.
A dozen years ago, investors panicked and fled from tech stocks in the wake of the bubble bursting. Many of them, fearful of the high-flying valuations and shaky fundamentals that preyed on their portfolios, have never returned. Even the sector’s dramatic transformation over the last decade has done little to sway folks toward a meaningful allocation to technology. Similarly, many investors have walked away from stocks after the Great Market Drop of 2008-2009 and have yet to come back despite a significant rebound in balance sheets and earnings. Stocks, like tech, deserve another shot.
A Mixed Bag
Indeed, the backdrop for equity investing continues to improve. We saw the Conference Board’s index of leading economic indicators exceed expectations and initial jobless claims shrunk to a better-than-anticipated 348,000. But not all the numbers have been rosy. On the housing front, we saw housing starts, new home sales and existing home sales show signs of stability, but not enough to suggest that a recovery is in the offing. One area of strength has been building permits. Last week marked the first time since October 2008 that they surpassed the 700,000 level. Crude oil fell slightly last week, but the drop has yet to translate into lower gas prices. Economic data outside the United States was decidedly more negative. The HSBC Flash China Manufacturing Index showed a slowdown in China, while the euro-zone services and manufacturing sectors also experienced contraction
The stock market did not exactly welcome the week’s economic news, with both the Dow Jones Industrial Average and the S&P 500 losing ground. However, the Russell 2000 was virtually flat and the Nasdaq Composite posted a slight gain. As a firm, we are not changing our view of moderate improvement in economic activity—even in the European Monetary Union. We also maintain our soft-landing expectations for China. We welcome the steepening of the yield curve, which should bode well for the economy and stocks, but we remain wary of oil as potential spoiler.
The good news is that nothing dramatic has happened so far in March. Historically, the month has been known for its milestones. The great market drop of 2008-2009 reached an inflection point in March 2009. And of course the tech bubble burst in March 2000. But maybe an uneventful March is a good thing given how fragile investor sentiment has been. Investors should pay attention to what’s happened in the tech sector and view it, in some ways, as a proxy for the broader stock market. We’ve come a long way, baby.
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A Word About Risk: Equities have tended to be volatile, involve risk to principal and, unlike bonds, do not offer a fixed rate of return. Dividend-paying stocks are not guaranteed to continue to pay dividends.
The NASDAQ Composite Index is a market-value-weighted, technology-oriented index composed of approximately 5,000 domestic and foreign securities. The Standard & Poor’s 500 Composite Index (S&P 500) is an unmanaged index that is generally representative of the U.S. stock market. Unless otherwise noted, index returns reflect the reinvestment of income dividends and capital gains, if any, but do not reflect fees, brokerage commissions or other expenses of investing. It is not possible to invest directly in an index.
The Russell 2000 Index is an unmanaged index that consists of the 2,000 smallest companies in the Russell 3000 Index and represents approximately 10% of the total market capitalization of the Russell 3000. It is generally considered representative of the small-cap market. The Dow Jones Industrial Average (DJIA) is a price-weighted average of 30 actively traded blue chip stocks, primarily industrials, but including financials and other service-oriented companies. The components, which change from time to time, represent between 15% and 20% of the market value of NYSE. Gross Domestic Product (GDP) is the value of all final goods and services produced in a specific country. It is the broadest measure of economic activity and the principal indicator of economic performance. P/E is a ratio of security price to earnings per share. Typically, an undervalued security is characterized by a low P/E ratio, while an overvalued security is characterized by a high P/E ratio.
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