Investors Are Embracing That 4-Letter Word: Tech
By ERIN SCHULTE
THE WALL STREET JOURNAL ONLINE
Updated November 23, 2002 12:23 p.m. EST
In the last three months, Wall Street has taken a shine to that old four-letter word: tech.
Top-performing industries since September include once-shunned pariahs like wireless communications (up 31%, according to BigCharts.com), Internet services (up 40%), consumer electronics (up 16%) and telecommunications (up 17%).
While strategists seem convinced the market scraped along the final valley of the bear market in early October, badly bruised investors can't help but wonder whether the latest technology binge -- with the Nasdaq up 32% from its low on Oct. 9 -- is finally the real thing, and whether it's wise to join the party.
The recent tech rally came even as top names issued ho-hum outlooks. Cisco Systemsrecently said it expected sales to drop 4% sequentially in the fourth quarter. Dell's cautious fourth-quarter outlook fell short of what Wall Street was expecting. Most recently, Hewlett-Packard's CEO Carly Fiorina said Wednesday that the company isn't seeing a meaningful increase in information-technology spending, though it seems to be "stabilizing."
Stable. That's not exactly a word that should inspire giddy paroxysms of hope about the future of tech spending, and yet, H-P shares leapt 14% during the next trading day, helping push the Dow industrials to their highest point since August. The Nasdaq sprung to its highest close since June, and the market rally stretched into a seventh glorious week.
See a calendar of earnings reports expected in the coming week.
See a calendar of economic reports expected in the coming week.
The technology sector is pulling back from the abyss, with analysts expecting earnings growth of 2% for the sector this year and 34% growth next year.
But earnings expectations keep getting ratcheted down -- for instance, analysts now hope for 17% earnings growth this quarter, compared with a much more generous 54% growth target at the beginning of the third quarter. The 17% might seem like a decent rebound, but comparisons from last year's fourth quarter aren't exactly tough. Meanwhile, analysts are already scaling back hopes for earnings in the first quarter.
And, tech stocks still aren't cheap, even after two years of painful selling. Steve Milunovich, global technology strategist at Merrill Lynch, says technology valuations are "fairly stretched" at 24 times 2003 earnings, measured by stocks included in the Merrill Lynch 100 Technology Index.
He adds that pricing is a problem -- while unit sales could tick up next year across the tech world, prices are low and top-line growth could suffer.
Bulls argue that Wall Street, an ever-forward-looking place, is banking on a rebound in the economy and, in turn, tech spending next year.
"Tech stocks are sniffing out the likelihood of a cyclical recovery," says Arnold Berman, technology strategist at SoundView Technology Group in Old Greenwich, Conn. "What's new is that the needs are increasing. [Next year] could be another really rotten year for tech spending, but if -- and only if -- it's a really rotten year for the economy."
Optimists say there is pent-up demand for technology products, which companies have put off upgrading or purchasing in the last years as their bottom lines have struggled to stay in the black. Once companies see the economy gain steam, they'll spend in the areas they've had to neglect. Many cite the "PC cycle" -- businesses usually replace computers every three years (though that gets put off if pennies are being pinched), and the last upgrade cycle was in 1999, when unfounded Y2K fears reigned.
Many seem hopeful for improved capital spending late in 2003. But the current enthusiasm for technology stocks will most likely wane early in the year.
Ray Rund, the head of research at Shaker Investments in Cleveland, notes than some big areas within technology often see seasonal weakness in the first quarter, which could scare investors out of the sector.
"The first quarter for semiconductors is traditionally a down quarter, and if people are expecting the seasonality maybe they won't be too upset, but if it's down more than people are expecting, you might find them selling off," says Mr. Rund.
In addition, he questions some of the "good news" the tech sector has allegedly reacted to the past few months. Earnings expectations were so reduced that anything short of horrible was considered a cause for celebration.
Getting into techs now could be good for turning a quick buck, but like last year, longer-term prospects for the sector remain hazy and January could be ugly.
Because the fourth quarter is seasonally a strong time for technology companies, Mr. Milunovich says, gains are further plumped by money managers chasing those returns. While he expects the rally to charge ahead through year's end because of those factors, the calendar's turn may come with a pullback.
"I don't see a fundamental basis for this to continue," Mr. Milunovich says. "I don't think capital spending is going to turn next year -- IT might be up a couple percent, but I think it will come back in 2004."
He notes that Wall Street saw a similar rally in the tech late last year as strategists began to predict an imminent turnaround, if a small one, in capital spending. That rally fizzled in late January.
Enjoy it while it lasts.
Write to Erin Schulte at erin.schulte@wsj.com |
