Technology stocks head toward best year since 2009

Regulatory scrutiny and mixed earnings aren’t stopping the group from rallying.

  • By Akane Otani and Karen Langley,
  • The Wall Street Journal
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Technology stocks are racing toward their best year in a decade, underscoring investors’ interest in companies offering everything from memory chips to social-media platforms.

Investors have favored shares of rapidly growing, relatively pricey companies over their more low-valued counterparts for much of the more-than-decadelong bull market.

Although the latter group has rebounded over the past three months, technology stocks remain the market’s leaders: The S&P 500 technology sector’s 41% gain for the year has put the group well above the S&P 500’s (.SPX) 24% climb and on course for its biggest one-year advance since 2009.

That is even as investors have had to grapple with issues including controversies over how big tech companies have handled users’ data, antitrust probes and trade tariffs targeting consumer devices.

To many money managers, the gains reflect confidence that technology companies will be able to continue delivering robust sales and earnings growth even as the broader economy shows signs of cooling.

“This is where the growth is over the long term, so you’re always going to get a pretty good bid” for technology shares, said Katie Nixon, chief investment officer of Northern Trust Wealth Management.

The FAANG stocks — Facebook Inc. (FB), Amazon.com Inc. (AMZN), Apple Inc. (AAPL), Netflix Inc. (NFLX) and Google parent Alphabet Inc. (GOOG) — have delivered mixed returns this year after rallying at the start of 2018. Of the five stocks, only Apple and Alphabet have managed to climb to fresh highs in recent months.

But other groups have stepped up.

Among the biggest gainers in the sector are semiconductor manufacturers, as well as the companies that create devices to make chips. Applied Materials Inc. (AMAT) has soared 86% this year, Tokyo Electron Ltd. (TOELF) has jumped 83%, ASML Holding NV (ASML) has risen 79% and Lam Research Corp. has more than doubled.

“They are the companies that are enabling the semiconductor manufacturers to make denser chips with more transistors on them,” said John Freeman, vice president of equity research at CFRA. “They hold the keys, so they hold the pricing power at this point.”

Shares of companies focusing on electronic payments also have done particularly well—something investors have attributed to the technology’s growing presence around the world.

“If you would have told me 20 years ago I was going to pull out my Visa card to pay a one-dollar parking meter on a square in Madison, Wis., I’d have said you’re nuts, but now that’s the only compensation they accept,” said Tom Plumb, president and portfolio manager at Plumb Funds.

Mr. Plumb said his firm’s largest holding is Visa Inc. (V), which has risen 39% this year. The firm also holds shares of Mastercard Inc. (MA), which are up 51%. Both companies reported better-than-expected earnings in October for their latest quarters, buoyed by higher spending on credit and debit cards.

To be sure, after a big rally, some investors say they believe parts of the technology sector may have run up too far. Nearly one in three fund managers believes the most crowded trade in markets is betting on a rise in U.S. technology shares and other rapidly growing companies, according to a Bank of America survey conducted earlier in November.

And in a field that is particularly reliant upon innovation, some companies will be better investments than others.

“Just because you’re sitting on top of the world, doesn’t mean you’re going to stay there,” Mr. Freeman said. For instance, Oracle Corp. —up 25% for the year—is one of the biggest software companies in the world, but it could still be at risk because it was late to cloud computing, he said.

Then there are earnings: Among the S&P 500’s 11 sectors, technology companies actually posted among the steepest declines in profits for the third quarter, according to FactSet. The sector reported a 5.4% drop in earnings from the year-earlier period, compared with a 2.3% decline for the broader S&P 500.

Within the past few months, a handful of technology-driven companies have reported momentum slowing. Amazon posted its first earnings decline in more than two years and Netflix missed its subscriber-growth target for a second consecutive quarter.

But money managers say technology stocks have been able to continue rising anyway in part because expectations were low heading into earnings season. As of June 30, analysts had expected the technology sector to report a 9.4% drop in third-quarter earnings, according to FactSet.

Technology executives managed to temper investors’ expectations heading into the second half of the year, Ms. Nixon said, making even the relatively weak earnings better than feared.

That has helped money managers justify buying technology shares that have grown to look pricey.

The S&P 500 technology sector trades at roughly 21 times its next 12 months’ projected earnings, according to FactSet. In comparison, the broader index trades at 18 times.

“This is an environment where we’re finding opportunities,” said Eric Wiegand, investment portfolio manager for the private wealth team of U.S. Bank, which has emphasized software and service companies within technology holdings.

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