Anyone distracted by the circus fed by Reddit in stocks this month may have missed an important fundamental story: a stellar profit season for tech companies that helped the group’s shares overcome the market once again.
With more than half of the S&P 500 earnings reports in books, technology companies like Skyworks Solutions Inc. and Paypal Holdings Inc. is leading all other major sectors in the benchmark, with more than 95% above profit estimates, according to data compiled by Bloomberg. As for revenue, 88% exceeded estimates.
The strong performance helped rekindle gains for technology stocks after months in which the group lagged behind cyclical sectors, such as the industrial sector, which tends to benefit most in a recovering economy. Since the beginning of the earnings season on January 15, the Information Technology Sector’s S&P 500 Index has gained 6.2%, second only to the group of communication services that includes technology giants such as Alphabet Inc. and Facebook Inc.
“They made big profits that you just can’t ignore,” said Gary Bradshaw, portfolio manager at Hodges Capital Management, of the technology companies. “This season of earnings shows that they will continue to grow at a solid pace.”
Entering 2021, technology stocks were expected by many to underperform other sectors prepared for faster profit growth. A key pillar of its strength in the past year – the digital services and hardware that were in such high demand during the Covid-19 pandemic – would fall by the wayside as vaccines slowly brought normality back to the economy, or so he thought.
For now, strong demand shows little sign of slowing. Wall Street saw performance and increased profit estimates after keeping them stable for months. Analysts now project profit growth of 11% in the fourth quarter, a fourfold increase from two weeks ago. Profit estimates for the first three months of 2021 have increased 40% since the beginning of January in the biggest advance among the top 11 industry groups, show data compiled by Bloomberg Intelligence.
One area of concern for bulls is the stock’s lethargic reactions to good earnings reports from the largest US technology companies. Of the five largest stocks on the market, Alphabet Inc. and Microsoft Corp. are the only companies whose shares are higher after their earnings reports. The father of Google has gained 8.8% since reporting revenue and earnings per share on February 2 that surpassed analysts’ highest estimates, while Microsoft has advanced 4.3% since January 26.
Despite exceeding estimates in almost all metrics, Apple has fallen 3.7% since its report. Amazon.com Inc., whose Revenue projections far exceeded analysts’ estimates and have fallen 0.8% since their February 2 results.
Very high ratings
The investor’s quiet enthusiasm is likely to be related to high valuations, in relation to bargains in cyclical sectors and lurking antitrust risks, according to Jason Benowitz, senior portfolio manager at Roosevelt Investment Group.
“They are formidable companies that are very profitable and can adapt to the environment and offer results for shareholders,” he said. “The things that hinder them relatively are still around and I am not convinced that they will outperform in 2021.”
Some of biggest surprises came from chip makers like Skyworks Solutions and software companies like ServiceNow Inc. Both shares have gained at least 12% since the results were released.
Among the companies reporting earnings next week are network giants Cisco Systems Inc., social media company Twitter Inc. and online travel company Expedia Group Inc.
Technology S&P 500 stocks are trading at 36 times reported earnings, compared to less than 32 for the broader index. Concerns about potential regulation should make it more difficult for technology companies to maintain superior performance, considering the premium they command with the group negotiating close to the most expensive valuation multiples in nearly two decades, according to Matt Maley, strategist- head of market at Miller Tabak + Co.
“With the new administration, there will be a more diligent effort to pass some real regulation against some of these technology megacaps,” said Maley. “It will not kill them and burst the bubble, but it can create a headwind, and that is a real concern for many investors. This is one of the few things where there is bipartisan support. “