The technology-heavy Nasdaq Composite Index hit a new record last week, as a broader rally in stocks helped nudge it past its 2000 peak. At the same time, mergers and acquisitions (M&A) and initial public offering (IPO) activities continue to gather speed.
While some market watchers are taking all of this as a sign that we're in another tech bubble, my take is that we're not. As I write in my new weekly commentary, "As Milestones Are Crossed, Be Selective," there are several reasons why today's tech rally is different from the one we saw back at the turn of the millennium.
1. Valuations in the U.S. technology sector look more sober today than back in 2000.
The current multiple on the sector is roughly 19.5 times trailing earnings, only about 5% higher than the broader market and not much has changed over the past year. In contrast, in March of 2000, the U.S. technology sector was trading at more than 72 times earnings, more than double the market's valuation. The year leading up to the bursting of the tech bubble in 2000 was marked by relentless multiple expansion, a one-year climb of more than 50%.
In addition, valuations in the sector make more sense when you consider technology companies' earnings. For instance, last week, while IBM and Facebook (NASDAQ:FB) missed analysts' expectations, partly due to the dollar's strength, Amazon (NASDAQ:AMZN) and Microsoft (NASDAQ:MSFT) both posted strong numbers.
2. The tech sector represents a more modest portion of the overall stock market.
At their peak, technology stocks accounted for roughly 30% of total U.S. market capitalization; today, the weight is around 20%. Technology actually is once again the largest weighting in the S&P 500, but it's far less dominant than it was back in 2000.
3. The sector has potential for continued growth.
Mature, established tech companies have strong balance sheets and large cash accounts that they're putting to work for shareholders via buybacks and dividends. In addition, technology stocks also may benefit from increased capital expenditures outside the tech sector aimed at boosting productivity and sales.
To be sure, this isn't to say that there aren't pockets of froth in the U.S. technology space, particularly in social media. So, while I continue to favor the technology sector, I advocate focusing on the mature tech companies with real earnings.
Sources: Bloomberg, BlackRock research