Fund managers renew love for tech stocks as interest rates ease

San Francisco

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 per cent since May 13. Megacap favourites such as Facebook, Alphabet and Microsoft 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 re-opening of the US economy continues to gain steam.

"These companies are leveraged to red-hot economic growth, have strong business models and the tailwind of megatrends from the pandemic that have only gotten stronger," said Saira Malik, chief investment officer for global equities at Nuveen, which has US$1.2 trillion in assets under management. "That's why they demand a premium."

The Fed's 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 per cent, 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, which trades at 51 times projected 2021 sales, and DocuSign, the electronic signature company priced at 26 times estimated sales, are both up more than 50 per cent 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, chief investment officer at Bokeh Capital Partners.

Ms Forrest isn't changing the makeup of her portfolio due to inflation and likes semiconductor makers like Micron Technology and Xilinx, 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, which boasts a 1.7 per cent dividend yield, tumbled last week after a disappointing earnings report. It's down 10 per cent from a June 8 record. More broadly, the Russell 1000 Value Index has lost nearly 5 per cent in two weeks.

Companies such as HP are still benefiting 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 such as software-maker Adobe that are poised to expand at a faster clip and generate higher profits over the long term.

Of course, not everyone is blase about inflation. JPMorgan Chase & Co chief executive officer Jamie Dimon said last week that 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 Ms 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.

"Software companies are still very leveraged to the re-opening as companies are looking for ways to leverage economic growth," she said. "We would not count out software." BLOOMBERG