Technology stocks, which for years have been the darlings of US equities, were not immune to the downturn which hit the market in late 2018. Investors had concerns about high valuations and whether their high levels of growth were sustainable, but 2019 has seen the sector leading the more general recovery the market has witnessed.
The sector should continue to dominate the US stockmarket for at least the next decade, believes Carolyn Bell, US and global equities investment manager at Kames Capital, as demand for their products and services shows no sign of abating.
“Tech will remain, longer-term, the brightest part of the US stockmarket and a main driver of US productivity growth,” she argues. “We simply don’t see that changing, especially as the appetite for tech remains so strong among consumers.”
Chinese technology, particularly in the fields of AI and digital payments, has taken great strides in recent years, but Ms Bell believes the US still continues to offer the most attractive incubation environment for tech companies anywhere in the world, with few barriers to entry and a clear route from angel investor to IPO.
“On top of that, the proportion of American students studying science, technology, engineering and mathematics is growing, meaning there is a steady supply of labour,” she adds.
Leading the field
For many years, the FAANGs – Facebook, Amazon, Apple, Netflix and Google (or Alphabet, as its parent company is now known) – have been the trailblazers in the tech space.
“If you look back to the US in 2017, if you weren’t invested in FAANGS, you simply had no way of keeping up with the market,” explains Kasia Kiladis, investment director in the US equity team at Fidelity International, giving the example of a value fund the firm runs which has no exposure to these stocks and found performance extremely challenging.
But FAANG performance diverged in 2018.
“First Facebook fell off a cliff because of data privacy, then Apple had the China slowdown,” explains Ms Kiladis.
Investors had seen the FAANGs as safe bets as they appeared to offer certain growth in a world where it was slowing, she explains. But now the risks are increasing.
Tech has historically been a cyclical sector, but while some of the sector has become much more defensive, Facebook and Google are “heavily reliant” on advertising, she says, spending on which typically falls during a recession. “So they remain cyclical and they are not as safe as they maybe once were. Things like enterprise technology are much safer.”
The FAANGs are expensive, and are “priced for perfection”, she says.
“What if Facebook was broken up? Or how much will it need to invest to take care of their data privacy issues?”
Clouds gathering
Regulatory headwinds also appear to be increasing. While this has largely been seen in Europe thus far – for example, in March Google was hit with a €1.5bn ($1.7bn) fine for breaching EU antitrust rules, the third imposed on the company by the EU since 2017 – there is also increased pressure coming from the US. In late April, Facebook announced plans to set aside $3bn to cover the potential costs of an investigation by the US Federal Trade Commission into its privacy practices. Anti-FAANG rhetoric could also ratchet up as the 2020 election draws closer. There has even been talk of breaking up the behemoths.
Nevertheless, the large global technology platforms will continue to be significant players in the ongoing digital transformation taking place around the globe, believes Grant Bowers, portfolio manager of the Franklin US Opportunities Fund, although he does see the potential for increased regulation as a risk.
“Governments and consumers are grappling with the right balance of economic power and privacy vs the benefits of a society that is more connected, has greater access to information and increased transparency.”
Nevertheless, the likelihood of major regulatory change or a full scale break up of these platforms is remote, he says.
Krishna Memani, CIO at OppenheimerFunds, agrees, saying that while there are “stiff political headwinds” ahead for the tech giants, their leading market positions are unlikely to be dented meaningfully by any measures. “There will be new regulations that will be discussed but the business and financial impact of those initiatives is likely to be modest,” he predicts.
The break-up of the FAAGs is a possibility, admits Cormac Weldon, head of US equities at Artemis, but that need not be a threat to investors. “The parts of a sum can sometimes be worth more than the whole,” he explains. “It would all depend on the terms of any such break-up.”
