Tech Is Still Getting Crushed. Here Are 15 Stocks to Buy in a Changed World
Jan 30, 2022
Last week, tech stocks finally put up a fight, and it led to a fascinating set of earnings reports. However, the industry continues to be hammered. The Nasdaq Composite is down 16% in the last two months — and the damage is far worse beneath the surface. One-quarter of Nasdaq equities with market capitalizations greater than $1 billion have been down 30% or more since mid-November. Over 60 Nasdaq stocks have fallen 50% or more, including well-known names such as Overstock, Affirm, Robinhood, DocuSign, and Etsy.
While stock prices are significantly lower, they are far from risk-free. As the Federal Reserve stated last week, rate hikes are imminent, most likely in March. Increased interest rates are detrimental to the type of high-multiple growth stocks that have dominated the market over the last two years.
Consider the following as your mantra: Lower-priced equities are not synonymous with inexpensive stocks. Zoom Video Communications (ZM) is down over 70% from its 52-week high—but it continues to trade at a multiple of ten times forecast sales for the current year and more than thirty times predicted earnings. Not cheap, but less expensive. Although Shopify (SHOP) shares have been halved, they continue to trade at more than 18 times current year revenues and 108 times profits. Cheaper, but not by a long shot. Etsy (ETSY), which is down 53% from its highs, trades at an eight-to-one multiple of revenues and close to a 50-to-one multiple of earnings. Certainly, it is less expensive. Cheap? No.
Throughout the epidemic, businesses such as Zoom and DocuSign (DOCU) kept the economy afloat. The Federal Reserve delivered extraordinary stimulus, lowering interest rates and fostering an atmosphere favorable to growth stocks. The venture capital industry responded by launching an unprecedented number of initial public offerings and special-purpose acquisition firms.
However, those days are history, according to David Readerman, the founder and CEO of Endurance Capital, a San Francisco–based technology hedge fund. According to Readerman, stock appreciation in 2022 will need earnings growth that is greater than the multiple reductions. "Valuations will come in hard," he predicts. He asserts that they will know when private equity tech purchases resume. He is not yet aware of this.
Meanwhile, Readerman recommends investors seek firms that return cash to shareholders through dividends, share buybacks, or mergers and acquisitions exits. Concentrating on growth, he believes, is problematic because "the market's willingness to pay for growth is under severe review."
Here are a few strategies for profiting from the new world of technology stocks:
Place a wager on the cloud: The cloud's best-case scenario materialized last week during Microsoft's (MSFT) earnings call. The stock originally fell 5% on the release of December-quarter earnings. Cloud revenue matched but did not surpass projections, and a 46 percent rise in Azure cloud revenue disappointed some investors. However, CFO Amy Hood stated at the conference that Azure's growth would accelerate in the March quarter—and the stock immediately reversed direction.
Hood restored market confidence in the cloud. I'm not sure why any reservations existed. The trend of enterprises migrating to the cloud continues apace—and is perhaps only getting started. Similar patterns were seen in last week's reports from cloud-software company ServiceNow (NOW) and business disk-drive maker Seagate (STX). Additional cloud data points will become available next week when Amazon.com (AMZN) and Alphabet (GOOGL) report earnings, but the pattern is evident.
Arista Networks (ANET) and Ciena (CIEN) are both direct bets on cloud-related capital expenditures. However, if you like to keep things simple, you may just purchase Microsoft, Amazon, or Alphabet, all of which are currently discounted from their recent highs.
Own semiconductor stocks: The notion that chips are scarce is scarcely news, and manufacturers are scrambling to expand capacity. Nonetheless, the projects will take years to complete. Paul Meeks, portfolio manager at Independent Solutions Wealth Management, told me last week during a "Barron's Live" call that he is waiting for some of the dust to settle on interest rates before jumping into chip stocks. Micron Technology (MU) and Qualcomm (QCOM), as well as chip-equipment providers such as Applied Materials (AMAT), ASML (ASML), and Lam Research, are among his favorites (LRCX). Additionally, contract chip makers, most notably Taiwan Semiconductor (TSM) and GlobalFoundries (GF), have compelling long-term arguments.
Return to your roots: IBM (IBM) is making progress on its turnaround strategy, as I detailed in a recent Barron's cover article. IBM's most recent earnings report confirmed this—revenue increased 8.6 percent, the highest increase in a decade. The stock continues to be a bargain, selling at just over one times revenues and 13 times this year's expected earnings while offering a roughly 5% dividend yield. Meanwhile, demand for the two major PC manufacturers in the United States—HP Inc. (HPQ) and Dell Technologies (DELL)—soared during the epidemic. Both companies are repurchasing shares, and their stock prices remain attractive. PCs are an example of a pandemic trend that is unlikely to reverse. Microsoft announced a 25% revenue increase in the latest quarter from Windows software sales for new PCs.
Finally, a little update: I argued a week ago that it was too late to sell Netflix (NFLX) following the stock's rapid plunge on dismal first-quarter guidance.I proposed that daring investors may consider nibbling. Additionally, someone did: Bill Ackman, the founder of Pershing Square, purchased $1 billion worth of Netflix stock this week. Ackman expressed his confidence in CEO Reed Hastings and the company's long-term prospects. Netflix is one example of a technology stock that may be inexpensive enough at the moment.
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That is the macro pressure on market multiples that has overshadowed first-quarter sales and earnings increases in the S&P 500's energy, materials, and industrial sectors.
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He also mentioned the Federal Open Market Committee's (FOMC) debates over the Fed's balance sheet, which he said demonstrated a "greater sense of urgency than it was predicted."
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