Is Big Tech poised for a comeback?

While investors can't afford to ignore the sector, they should remain cautious as there are fewer opportunities for windfall profits, analysts say

Big Tech stocks including Apple, Amazon, Alphabet, Facebook owner Meta and Microsoft have soared this year after a difficult 2022. Photo: Alamy

After a tough 2022, technology stocks are flying again. Shares in electric car maker Tesla are up 59.19 per cent so far this year, while circuits and graphics specialist Nvidia is up a thumping 99.69 per cent.

Last year, the so-called FAANG stocks — Facebook owner Meta Platforms, Apple, Amazon, Netflix and Google-owner Alphabet — crashed and burnt.

Now, they are on fire, but in a good way. Meta was scorched by chief executive Mark Zuckerberg's doomed love affair with the Metaverse, but this year its share price is up 89.03 per cent after investors decided he was over it.

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Apple has shot up 38.92 per cent, Amazon, Alphabet and Microsoft are all up about 30 per cent, and streaming service Netflix has climbed 16.89 per cent.

“Tech is back on top,” says David Older, head of equities at asset manager Carmignac — and he reckons there is more to come.

“With valuations well below their Covid peak, increasing focus on profitability and excitement around artificial intelligence, the sector should continue to perform well.”

Tech firms have absorbed important lessons from the recent sell-off, Mr Older says, and are shifting their focus from growth-at-all-costs to improving profitability instead.

“Tesla’s Elon Musk has radically cut Twitter’s cost structure by reducing headcount by 75 per cent, while Mr Zuckerberg has referred to 2023 as the ‘year of efficiency’,” Mr Older says.

This should help to boost margins and earnings per share growth, while AI might even live up to the hype.

“At the moment, it looks more like an ‘iPhone moment’ than a potential disappointment, as the Metaverse, Internet of Things, autonomous driving and blockchain have been to date,” Mr Older says.

Cloud infrastructure specialists such as Microsoft Azure, Amazon AWS, Google and Oracle could benefit from the AI revolution, along with Nvidia and AMD, he adds.

Victoria Scholar, head of investment at Interactive Investor, says repeated aggressive US Federal Reserve interest rate increases battered Big Tech but investors are flooding back as the cycle peaks and tech stocks look like better value.

“After years of overzealous expansion, they have been cutting costs to combat high inflation, softening consumer demand and falling ad revenue,” Ms Scholar says.

Investors should exercise caution as “piling in after a big rally” can backfire, but there are opportunities out there, she adds.

“Many tech stocks remain sharply below their recent highs, while US inflation is falling and jobs are resilient.”

After a disastrous 18 months for Big Tech, this year could not be more different, says Sam North, market analyst at eToro.

The recent US earnings season delivered one positive surprise after another and a lot of the good news is now priced in.

“Although, tech may now need to take one step back before it can take two steps forward,” Mr North says.

Wider political and economic challenges may drive investors into more defensive sectors, such as wrangles over the US debt ceiling, the banking crisis and interest rate expectations, he adds.

“Consumer staples and utilities could benefit over the next couple of months before investors invest further in this tech rally.”

Investors should wait to see if there is a summer dip, Mr North suggests.

“The market is at a crossroads but a strong end to the year can’t be ruled out.”

Lombard Odier analysts are warning of a “tug of war” between robust long-term fundamentals and today’s pricey stock valuations.

Yet first-quarter online advertising and e-commerce did better than expected, while headcount reductions and hiring freezes should help shield profitability, the analysts say.

The tech sector contains plenty of solid, profitable companies but also has a large number of low-profit enterprises that will struggle as high interest rates drive up the cost of capital, says Bill Blain, strategist and head of alternatives at asset manager Shard Capital.

The life-cycle of invention, innovation and profitability has become very short, and many investors fear it will be overturned by the AI

Bill Blain,
strategist and head of alternatives at Shard Capital

“Businesses will have to adapt investment plans for the long term, rather than the short-term inflationary spike many expected,” he says.

Tech is highly vulnerable to paradigm shifts and new ways of doing old things better, faster and cheaper, and few firms survive at the top for long, he adds.

“Apple has dominated for 20 years but that doesn’t mean it will dominate for the next 20.”

Profitable business models can become obsolete overnight due to new entrants or regulation.

“The life cycle of invention, innovation and profitability has become very short, and many investors fear it will be overturned by AI,” Mr Blain says.

He predicts that AI will deliver an “evolutionary shock” by inventing whole new business sectors and forcing existing businesses to change the way they do everything.

Coders and software will be the big losers as “AI can do it better, effectively for free”, while hardware firms will be boosted by demand for new servers and tech tangibles.

Investors cannot afford to ignore tech, but they should not go all in, Mr Blain adds.

“The need for dull, boring, predictable returns, the desire to protect capital in a time of increasing uncertainty, and the fact tech is now paying much more for scarce capital, leaves fewer opportunities for windfall profits.”

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After the recent surge in Big Tech, investors should tread carefully, says Vijay Valecha, chief investment officer at Century Financial.

“The rally could continue for a few months but when the Fed finally pivots and cuts rates, the market may have already moved and we could witness another sell-off instead.”

A US recession would deal another blow.

“Cautious investors may find it more prudent to stick with large-cap tech companies that possess substantial cash reserves, enabling them to navigate through challenging times.”

As ever, diversification is crucial, within and across asset classes, Mr Valecha adds, while naming several tech-focused exchange traded funds for investors who understand the challenges but are keen to get exposure.

His favoured ETFs include the Invesco QQQ Trust Series 1, which tracks the Nasdaq 100 Index and Cathie Wood’s popular but volatile ARK Innovation ETF, which invests in disruptive innovation.

Mr Valecha also highlights Vanguard Growth ETF, the Technology Select Sector SPDR ETF, and two specialist funds, VanEck Semiconductor ETF and iShares Cybersecurity and Tech ETF.

As ever, aim to hold for a minimum of five years but ideally much longer than that. This year's adrenalin rush may ease up but tech will be on top again soon - and investors may find it difficult to resist..