Over the long term, Wall Street has proven time and time again to be a wealth-generating machine. While stock market corrections are common, broad market indices tend to be higher for longer periods.
Of the market’s 11 sectors, none has attracted more investor attention than technology stocks. Since the end of the Great Recession (2007-2009), the tech sector has had constant access to historically cheap capital. For more than a decade, the Federal Reserve’s accommodative monetary policy has allowed tech stocks to borrow, buy, and fund innovation with cheap loans.
Tech stocks were also Wall Street’s darlings in the first quarter just ended. All major tech stocks posted double-digit gains to start the year, the benchmark S&P 500 Index (SNPINDEX: ^GSPC) And Nasdaq Composite A huge profit was posted.
Unfortunately for tech investors, one of the new data appears to be a warning for Wall Street.
Tech stocks are rallying.
NewAge Wealth Chief Investment Officer Cameron Dawson shared his thoughts on the tech sector on Twitter in less than two weeks. In Dawson’s thread, tech stocks are responsible for the major indexes in 2023.
However, Dawson points out something that tech investors may or may not be overlooking: the premium valuations in the sector.
Historically, the price to earn multiple (p/e) in the technology sector has often exceeded the S&P 500 p/e average. It’s not just tech stocks that tend to rise faster than most market sectors. But they realize they’ve done better in historical recessions. Smaller earnings declines for tech stocks during the Great Recession and the early stages of the Covid-19 pandemic have helped the sector maintain higher P/E ratios.
But at the end of March 2023, the combined P/E ratio of tech stocks is 38% higher than the S&P 500’s P/E ratio. Capital is at full capacity. The S&P 500’s technical P/E premium is now double its five-year average.
Several indicators warn investors
Usually, high valuations alone are not enough to deter investors. But this is not always.
For example, the S&P Shiller P/E ratio can predict a stock’s potential downside. I say “probably” because it doesn’t predict how long the stock will stay in total excess.
The test going back to 1870 has the S&P Shiller P/E six times higher and has run for 30, including February 2023. On five previous occasions, the S&P 500 has lost at least 20% of its value. . Again, goods can remain relatively expensive for a long time. In the end, the result is always a marked bear market.
Premium ratings are not acceptable during bear markets (such as the current one) and price declines. Although the United States is not in recession, three indicators of recession have alarmed investors.
© WayCharts. The gray area represents failure , and historically, yield curve fluctuations have been bad news for the US economy. Yield spread for 10-year and 3-month Treasury bonds
For example, the Federal Reserve Bank of New York has a recession probability tool that determines the likelihood of a US recession over the next 12 months based on the difference between 3-month and 10-year Treasury yields (ie, the yield curve). US Bonds After 1966, when the probability of a recession reached at least 40%, the United States fell into recession. In March, it was 57.77%.
In addition, the ISM US manufacturing index and the Conference Board’s leading economic indicator offer data that suggests a deeper economic slowdown is likely.
While tech stocks have outperformed other sectors during the recent recession, it’s unclear whether investors will support the S&P 500’s rich price-to-earnings premium.
Be smart and keep it simple
It recently highlighted some unattractive tech stocks at current valuations. These include “King of the Mountain”. Apple (NASDAQ: AAPL ) as well The largest company in 2023 Nvidia (NASDAQ: NVDA ) .
Neither Apple nor Nvidia are bad companies. Apple has great leadership, a loyal customer base, and has bought back more than $550 billion in common stock over the past 10 years. Meanwhile, Nvidia is a big player in the GPU space and is on the cutting edge of the Artificial Intelligence (AI) wave.
But both companies have high valuations and short-term growth issues. Even with historically high inflation as a tailwind, Wall Street estimates that modest sales of Apple’s iPhone 14 will cause the company to report a modest decline in sales and profits in fiscal 2023. 50%% due to surplus stock in computer department. Apple, which is 28 times revenue in fiscal 2023, with Nvidia forecasting 60 times revenue in fiscal 2024, are not encouraging.
But just because some tech stocks are perfect doesn’t mean they’re worthless. Investors should understand well what they are investing their money in.
Semiconductor stock Broadcom (NASDAQ: AVGO ) It is a perfect example. Even with a 28% share price increase over the past six months (as of April 7, 2023), Broadcom is still 15 times more valuable than Wall Street’s 2023 estimate.
In addition, Broadcom tends to stock a large number of orders. If the U.S. economy takes a short turn, Broadcom can rely on its large portfolio to generate predictable operating cash flow. That delay, combined with the fact that Broadcom generates most of its sales from the wireless chips used in the next generation of smartphones (smartphones and access to wireless services are practically essential), should create a good foundation for shareholders.
It is also important to think long term. While indices based on valuations and declines in value may sound alarming from time to time, the stock market will continue to be the giant source of wealth it has been measured for decades.
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Sean Williams has the following options: Short a June 2023 call on Nvidia for $350. The Motley Fool has a post and recommends Apple and Nvidia. The Motley Fool recommends Broadcom. The Motley Fool has a disclosure policy.
