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Market View

Technology: is it time to lay the ghost of the dot-com bubble to rest?

A PDF version of Market View is available.

When technology stocks suffered a sudden and dramatic sell-off in early June, it was hard not to be reminded of the dot-com bubble. Believe it or not, that was 17 years ago - but the impact lives on in the memories of investors. The technology sector has come a long way since then. For starters - it’s profitable. But it’s also a more mature and stable version of its former self, finally delivering on the promise of 20 years ago. With technology stocks playing an important part in client portfolios, we take a closer look at how the sector has developed and its prospects for the future.

A technology business is classed as one that ‘revolves around the manufacturing of electronics, creation of software, computers or products and services relating to information technology’. In today’s world, that defines six of the world’s 10 most successful businesses (seven if you include Amazon, which is not strictly defined as a technology stock).

Largest 10 companies in the world by market cap

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Source: Bloomberg

With some technology share prices appreciating by as much as 60% so far this year (massively outperforming the broader market, which is up by ‘only’ 11%), the sector is enjoying a period of robust growth. But is this sustainable, or are we already in bubble territory? We believe it is sustainable, and here’s why:

  • In the midst of the dot-com bubble (roughly 1997-2001), investors saw the potential of technology business and their ability to change the world. While they were right about the future impact of tech on our everyday lives, they were wrong about the sector being a good investment at that time. Valuations made little sense and many companies were making no money. Put simply, the market got ahead of itself.
  • The businesses that survived are now delivering on the potential that drove the frenzy. The big technology firms are very well positioned for the future. Their products are so good that users don’t want to, or almost can’t, leave (Facebook is a prime example). This makes it very difficult for competitors to break into the market.
  • Larger firms in this sector have become more diversified, and are able to buy up innovative new companies before they become potential rivals.
  • The graph below shows the price-to-earnings ratio of a basket of technology stocks. This ratio shows the multiple of earnings investors are paying for a share. The higher it is, the more ‘expensive’ it is. You can see that the shares have become gradually more expensive over the past few years, but they are nowhere near the levels they were back in 2000. In fact, in many cases, they are no more expensive than the general market, which makes them more attractive given they are growing their earnings much faster.

MSCI World Information Technology Index - PE Ratio

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Source: Bloomberg

Of course, when it comes to investing, there’s no such thing as a sure bet and there are very definite risks involved in technology. Companies in this sector could be susceptible to changes in government regulation, especially where data privacy and protection of young people is concerned. Also, historically, very few companies have been able to maintain the profit margins that tech stocks are currently enjoying for the longer-term. Possibly, at some point, they will lose their edge and not turn as much of their sales into profits.

That said, given the growth in size of the global internet user base, the rise in mobile technology, and the pace of innovation, it will be very difficult to ignore this sector for some time to come.

“The technology sector is an exciting area of the market, with robust growth expected for the foreseeable future. Barriers to entry are far higher than they were 10 years ago, with the biggest and best companies becoming increasingly powerful. In our view, longer-term investment in stocks such as Google (now Alphabet), Tencent and Microsoft gives investors the tailwind they need in today’s market, although we are avoiding some where the valuations are expensive.” - Niel Laubscher, Global Equity Analyst

A PDF version of Market View is available.

This article is for information purposes and should not be treated as a forecast, research or advice to buy or sell any particular investment or to adopt any investment strategy. Any views expressed above are based on information received from a variety of sources which we believe to be reliable, but are not guaranteed as to accuracy or completeness by Sanlam Private Wealth. Any expressions of opinion are subject to change without notice. Reproduction of this commentary is not allowed in whole or in part without prior written agreement from ‘Sanlam Private Wealth. Past performance is not a reliable indicator of future results. Investing involves risk. The value of investments, and the income from them, may fall as well as rise.

Investing involves risk and the value of investments and the income from them may fall as well as rise and are not guaranteed. Investors may not get back the original amount invested.