The Business Times

Megacap tech rebound reignites concern over 'extreme' valuations

Published Wed, Jul 14, 2021 · 05:50 AM

New York

MAJOR US technology and Internet stocks have returned to favour on Wall Street, renewing concerns about valuations as investors rotate back into growth-oriented names amid a decline in Treasury bond yields.

With the S&P 500 information technology index up 16 per cent this year, Morgan Stanley sees valuations as "extreme," noting that the sector's price-to-sales ratio of 7.4 has risen to levels last seen during the dot-com bubble in 2000 when it reached 6.8, according to Bloomberg data.

"The problem with this set-up is that tech sector profitability and earnings are vulnerable," Lisa Shalett, chief investment officer of Morgan Stanley Wealth Management, said. She sees "unprecedented headwinds" for the group, including rising input costs, a weaker US dollar, heightened competition, higher taxes and stricter regulations.

The US market's five biggest names - Apple Inc, Microsoft Corp, Amazon.com Inc, Alphabet Inc and Facebook Inc - have all outperformed the S&P 500 Index since the start of June, with the group adding more than US$1 trillion in combined market capitalisation over that period.

That advance reflects a view that the rapid growth spurred by the nation's reopening won't be sustained in the long run, which, in turn, has helped push the yield on the US 10-year Treasury note to below 1.4 per cent from 1.7 per cent in March. If yields were to move back up again, however, that could put even more pressure on valuations.

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"The gain in these big-cap tech stocks is as simple as the 10-year going from 1.7 to 1.3 per cent. Being at 1.7 per cent really creamed tech multiples," said Ted Mortonson, technology desk sector strategist at Baird.

"I have to say, however, that compasses are really spinning out there. I talk to people who are very confused about why we are at 1.3 per cent on the 10-year."

In a phone interview last week, he pointed to rising commodity costs and other signs of inflation as potential risk factors.

However, he maintained a positive view of mega-cap tech's long-term growth potential.

In an environment with wage inflation and commodity pressures, "investors will be looking for companies that can fight through any growth deceleration" and big-cap tech groups "are representative of the companies that can get through any slowness in the global economy".

Apple, Microsoft, and Amazon.com all traded lower on Monday, though all three have recently hit record levels. Alphabet and Facebook were both higher.

All five companies are scheduled to report quarterly results before the end of the month. BLOOMBERG

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