August 07, 2020
Mark Minchin

Tech has Skewed the Numbers

To make sense of this seemingly impossible dichotomy of rising markets and deteriorating fundamentals, we need to look more deeply into the stock market’s composition.

Whereas we have historically looked at the big market indices such as the S&P 500 as a broad-based indicator of corporate health, this is less and less the case today as America’s big tech companies have come to dominate.

By way of example, the three stocks Apple, Amazon and Microsoft currently have a market capitalisation that is more than the GDP of Germany.

The big six tech companies – Facebook, Amazon, Apple, Microsoft, Netflix and Google – now account for one quarter of the S&P 500, up from 10% only a few years ago.

Collectively these six tech stocks have risen around 35% so far this year, dragging the global bourse with them.  

In addition to these mega caps, there are other smaller (but still massive) technology companies that have posted stellar returns, further bolstering the Index. Elon Musk’s Tesla, for example has risen over 250% this year.

If we remove just the big six referred to above from the S&P 500, the remaining 494 stocks are collectively down around -6% CYTD.

Looking more broadly, if we remove the tech heavy US stock market from the MSCI World Index, the rest of the global stock market has produced a zero return, in aggregate, for six years.

The question of whether the technology sector is overvalued is a vexing one and one that neither you nor I are likely to answer accurately. Nevertheless, it is worth highlighting a few fundamentals:

  • eCommerce has experienced the equivalent of ten years of growth in the past three months and with forced upskilling in technology and adaption to doing business differently, there is good reason to believe that the shift to eCommerce is more than a short-term fad. 
  • All over the World the corporate sector is looking to modernise. Businesses are improving/building apps, modernising their cyber security, automating elements of their workforce, moving to the cloud, and thinking about how they can harness AI.
  • ‘Game Changing’ technologies are emerging that have the potential to create  ‘step change’ in how we work and live. Smart phones, 5G, artificial intelligence and even blockchain all seek to solve existing problems as well as problems that we haven’t even thought of yet. This blue-sky potential is difficult to value, but we know that it has historically been underpriced and markets learn from history.  

Yet, whilst all this sci fi has captivated investors, at current prices the upside potential comes at a significant cost. Consider that earnings for US technology companies as represented by the Nasdaq have declined 27% since February 2020 and are now back to 2017 levels, but the index is 60% higher than it was in 2017.

Read on.

Global Markets and the Global Economy take different Paths

Since I last wrote in this column on 31 March there has been tremendous change. The way we live, the way we work, the way we engage with each other and the way we think about the future. Some of the change has been good, much of it terrible, and there is plenty that we’re still not sure about.

August 07, 2020