Tech Stocks Bear Brunt Of Summer Selloff. But Have Their Fundamentals Actually Changed?

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Summary

  • Why some tech stocks might be bargains, despite declines.
  • Tech fundamentals vs market sentiment, and why they tell two different stories.
  • Are there tech stocks that are recession proof?

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It’s been a challenging year for equity markets, especially mega-cap tech stocks. But do their declines actually reflect company fundamentals? Greg Bonnell speaks with Vitali Mossounov, Global Technology Analyst, TD Asset Management, about the outlook for the tech sector.

Transcript

Greg Bonnell: We've been seeing a broader market sell-off after the rally we had through the summer, and of course, that's included the tech sector. But how are these companies actually faring in terms of fundamentals? Who better to answer that than Vitali Mossounov - Global Technology Analyst at TD Asset Management. Vitali, great to have you back on the show.

Vitali Mossounov: Great to be here, Greg.

Greg Bonnell: We are now entering September - two thirds through this quarter. How are you viewing the health of the tech sector right now?

Vitali Mossounov: It's been mixed this year. We had second quarter results that were okay, but they weren't particularly great. And so investors are very much questioning the way forward for technology stocks at this juncture. Is it going to be more of the same choppiness? Or could things get better?

Greg Bonnell: Do we have a read, now that we are 2/3 of the way through this quarter, of the actual fundamental health of some of these companies? Can we start to make any sort of- not pronouncements, but maybe just some sort of observations.

Vitali Mossounov: I think they're doing good but they're not doing great. You've definitely seen weakness. Some headwinds some headwinds are emerging. Longer deal cycles with some of these companies. They're just having trouble selling their product a lot of the time.

So it's headwinds, but I would say that they're not catastrophic. It's just that the market at this juncture really takes everything and amplifies those fears. It makes it the end of the world for just about anything that happens, and that's not really the case right now.

Greg Bonnell: Now, the big debate obviously through the summer was that the rally that we were enjoying - and it was flowing through the tech space and more broadly across the equity markets - was it a bear market bounce? Or was it the start of something else?

And a lot of questions were hanging over. This has been a rough couple of sessions - really, since last Friday. What do you make of that summer rally, specifically when we saw the rally in some of those tech names?

Vitali Mossounov: Yeah, that took people for a spin. It was a sharp rally coming out of the quarter. And then things just started giving back all those gains.

We've been seeing, really, an unwind of that entire rally. So I think that what you had is very much fear heading into the quarter, companies coming in reporting - reporting better than expected results, that fear coming off the table.

But now, again, in between the reporting periods, people just don't know what's happening. There's different economic data coming every single day. And so things are, things are just in flux. And without any hard data points investors, are again going into panic mode.

Greg Bonnell: Okay, so let's talk about the longer term then. If we take a look at, historically, the performance of some of these names, what could we expect not in the next several days because that's so hard to guess - even the next several weeks - of all this choppiness. Longer term, what are you expecting?

Vitali Mossounov: Well, longer term, the big question is, can tech return to outperformance? I think this is the big question. And we've seen - we'll have a chart up illustrating this very phenomenon. 2017, 2018, 2019, tech stocks - they were in the driver's seat, they were doing much better than the rest of the market.

Somewhere around mid-2020, you began to have a tug of war between the rest of - the other sectors. And you can see that. When that chart is going up, tech is outperforming. When it's going sideways, you've really got this phenomenon of, some days, tech underperforming, some days tech outperforming.

So longer term, is that line going to go back to that positive slope? Again, that's the question.

Greg Bonnell: That's the question. What about the actual fundamentals involved, too? At the very basic of things, we invest in companies because we like their earnings potential going forward and we want to take part in that success. What can we sort of glean - I think you have another chart to this point as well - from that information?

Vitali Mossounov: Yeah, we invest for the long term, and that chart has a positive slope. Something outperforms something else when earnings growth is better. Ultimately that's what we're looking for. And so that's why the second chart is so critical. What you see in the second chart is, going back, the line for year-over-year growth in technology stocks - that line - that's the orange line up on your screen - historically higher than the rate of growth for the rest of the market.

So no surprise that it's technology stocks that have outperformed. Better earnings growth. Better share price growth. But what you see up on your screen there is, as we came out of the pandemic, it's the rest of the market that began to shine - the blue line over the orange line. Now, a big part of that is because those non-tech companies did so poorly during the pandemic.

But still, earnings growth is better in the rest of the market. And so other non-tech stocks are being rewarded. Million dollar question - can that orange line regain supremacy? Can technology stocks show that structural growth that they're known for and give investors that comfort - welcome them back into investing in technology?

Greg Bonnell: Obviously, investors - when they saw that massive rise in technology stocks early in the pandemic, sort of got spoiled by some of those gains. Some of those were real high flyers. And then of course, you get these outsized gains. And you saw a pullback in the space. People talk about bubbles. They talk about crashes. If you're going to put perspective on it longer term, what does the space look like? Are those terms a little too alarmist?

Vitali Mossounov: Well, greed and fear are the two words over the last few years. And there was greed in 2020. You saw a lot of meme stocks, a lot of high-flying tech stocks, really go to the moon. Right now they're reversing those gains. And the narrative continues to be - I'll use the word, in flux still, throughout this year.

Look, you've got people saying that there's a big crash coming. You've got others saying that, no, you're going to have a sharp rebound and all-time highs in a matter of months. There's people in both camps. And as I look at these businesses and read through the fundamentals and think about 2023, 2024, I really don't see either of those scenarios.

You've got solid businesses - the likes of Microsoft (MSFT) and Apple (AAPL) - that have a lot of good things going for them. Like any other business, they have some headwinds that they're facing as well. But net-net, it's a sector that's still full of pretty solid companies that should be able to deliver you that earnings growth in the long run.

Greg Bonnell: And we're going to get deeper into some of these individual names later in the show. But when I think about the sector as a whole, these are technologies that we've learned to live with. And although people got very excited in those early innings of the pandemic, it's hard to see us saying, well, I don't need that technology anymore. It's sort of just ingrained in our regular lives.

Vitali Mossounov: Yeah, that's very much the case. It doesn't take a lot to figure out who the big technology companies are and which products of theirs that we use. They're actually all around us and in my pocket right now.

Greg Bonnell: We're surrounded.

Vitali Mossounov: We're surrounded. Right. And that's a whole different privacy conversation we could have. But you're absolutely right. And so I think - look, bottom line, sometimes investors think, look, technology does something unique here.

And it doesn't have anything to do with the economy. And so, as a result, they expect these stocks and these earnings to grow and grow and grow. And this year is just a reminder that, when you're that big and that, as you said, pervasive in people's lives, well, guess what? As the economy slows, these businesses slow as well.

Original Post

Editor's Note: The summary bullets for this article were chosen by Seeking Alpha editors.

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