How the mighty hath fallen. Technology stocks, especially the biggest ones, have dominated the market for the past decade. But lately they have taken a pasting, thanks in part to worries around rising inflation and the omicron variant.
The Nasdaq 100, which tracks the largest tech stocks, clocked a 20% annual advance over the past 10 years, handily outpacing the broad-market S&P 500, up 15%. Thus far in bearish 2022, the Nasdaq benchmark has lost 13%, with the S&P 500 down just 8.7%. Look at Apple, the leader of the tech realm, with the world’s largest market value, $2.6 trillion. Apple’s stock is off 10% this year, a painful descent after its 34% surge in 2021.
So, are the tech leviathans entering the twilight at last? Hardly.
In fact, there’s a strong case their stocks will rebound once the gloomy clouds disperse. Many market experts expect inflation to abate over the next year. Ditto for the coronavirus. By this reckoning, tech’s Big Five —Apple (APPL), Microsoft (MSFT), Google-parent Alphabet (GOOG), Amazon (AMZN) and Meta Platforms (FB), previously Facebook—then have a long spell of continued preeminence ahead. Even now, they still constitute some 20% of the entire S&P 500’s value.
The upside of the five’s comedown is that they are cheaper of late. Not bargains, but at least less expensive. The average historical price/earnings ratio or P/E (the standard metric to measure how expensive a stock is) for the S&P 500 index is around 16; currently, the index’s P/E stands at 24. Although the top tech stocks are mainly higher, most aren’t far out of reach from the index’s level. Meta is the most affordable at a below-market 21. Alphabet is 29, Apple 28 and Microsoft 34. The loftiest is Amazon at 54.
The monster tech stocks’ market value (how much their stock is worth in toto), also known as market capitalization, remain astonishing, with four of them weighing in at over $1 trillion and Meta not far behind at $819 billion. Before the market sagged, Apple was valued at $3 trillion.
They sport these stratospheric values for a reason. Their products and services are in high demand; they reap vast revenues and are expected to keep growing; their cash stashes are deep, giving them great flexibility; and they have wide “moats,” which means a lock on their given areas that rivals have difficulty breaching in any major way. “Making a long-term bet against them is hard,” says Dave Mazza, head of product at investment firm Direxion. “They are resilient, with robust earnings. You can’t not own them.”
Troubles for the titans?
Sure, the Darwinian nature of business has relegated any number of one-time behemoths either to oblivion or also-ran status. And that’s especially true for tech. In the 1960s and 1970s, the hottest tech names were Eastman Kodak (KODK), Xerox Holdings (XRX) and International Business Machines (IBM). Of those, only IBM now has a significant market cap ($116 billion), albeit nothing approaching the Big Five’s value, let alone the quintet’s commercial heft.
What’s more, technology is a much important economic presence in the 21st century. In 1970, tech was 0.3% of gross domestic product, and in 2019 (from the last stats available) weighed in at 9.6%, making digital business the nation’s fourth largest industry.
Today’s high inflation and its attendant interest rate hikes do no favors for tech companies. The rate increases render their future earnings less valuable; expanding earnings are the chief attraction for investors. While the tech goliaths prospered during the pandemic’s stay-at-home culture, it’s possible that persistent virus variants could threaten the economy and for a while hold down the companies’ profits.
Another threat is from Washington, where Big Tech is in foul odor, in particular Alphabet and Meta. Asked by Harvard Business Review to give the megaliths advice, Columbia Business School professor Jonathan Knee says they should act “so that the people up and down the value chain have a vested interest in their continued success rather than going to sleep every night hoping for their destruction.”
And yes, the tech superpowers can always be outmaneuvered by wily competitors, although thus far only in discrete areas. Example: Microsoft is late to the party with its workforce communication app, Teams. It faces spirited competition there from Slack Technologies, which the cloud customer relations platform Salesforce (CRM) bought last year, and Zoom Video Communications (ZM) in videoconferencing.
On the other hand, these big guys have the storied ability to expand by simply writing a hefty check for what they need. Take Microsoft. The Xbox maker plans to enlarge its gaming presence through buying Activision Blizzard (ATVI), owner of such popular titles as Call of Duty and Candy Crush, for $68.7 billion in cash.
In the land of giants
This is the largest all-cash deal in history. The purchase price represents a little more than half of Microsoft’s cash, cash equivalents and short-term investments, as of the company’s year-end 2021 filing. Microsoft’s balance sheet is mighty enough that it doesn’t even need to borrow the money—taking on debt is a standard acquisition technique for most companies.
To assess this goliath roster’s staying power, let’s review them in order of market cap:
Apple
The iPhone transformed the Mac originator into the world’s most valuable corporation. Critics have perennially predicted that the popularity of Apple’s signature smartphone will wear off, and the company will shrivel. That isn’t happening anytime soon. The new iPhone 13’s sales have been enormous, Wedbush Securities analyst Daniel Ives says.
Demand for all its wares, from iMacs and iPads, has expanded nicely too during the pandemic, and analysts believe that attraction will linger. “The App Store and Apple ecosystem have created extraordinary shareholder value by monetizing its high-end niche,” Columbia’s Knee says.
Apple has encountered some parts shortages, and its torrent of sales and earnings “would have otherwise reported even higher growth,” notes Wedgewood Partners in a client letter. Nonetheless, the company is building its own chip-making capacity that should help insulate operations going forward, Wedgewood says. With these internally sourced microprocessors, the thinking goes, Apple’s products would be better shielded from rivals. At the same time, Apple continues to support its stock with an aggressive share buyback campaign.
Microsoft
A decade ago, Microsoft couldn’t get any respect from Wall Street, which viewed it as a commodity provider of office software and not much more. Then in 2014, new CEO Satya Nadella turned the place around. He placed the new cloud division, Azure, at the center of the business. Showing little signs of a slowdown amid a spate of long-term customer deals, Azure is a hardy No. 2 behind Amazon’s cloud service. Meanwhile, Microsoft has increased its command of the office software realm, via improving core offerings.
For the December-ending quarter, revenue and earnings shot up 20% and 27%, respectively. Certainly, Microsoft benefited from the remote-work environment over the past couple of years, and a widespread return to the office (assuming one occurs) likely will enlarge its prospects even more—for instance, through helping get the kinks worked out of a supply-chain-bottlenecked economy. “Coming out of the pandemic, we’re seeing actually a lot of constraints in the economy,” CEO Satya Nadella said in an investors call. “And the only resources that can help drive productivity while keeping costs down is digital tech.”
Alphabet
The search engine kingpin controls a third of the search market, and its perch seems very secure, what with a torrent of ad revenue sluicing in. As the first search operation to achieve massive scale, Google has no close competitors. This advantage has garnered a lot of advertising dollars. “They have an unreal monopoly,” says Julie Biel, a senior research analyst and portfolio manager at investment firm Kayne Anderson Rudnick. “It’s hard to beat that.”
The chief reason the company did a name-change in 2015 to Alphabet—presumably, the new moniker refers to its being a bet it can achieve alpha, meaning superior returns—was to acknowledge all its other subsidiaries. Some of those endeavors have been clunkers, such as the Nexus smartphone and Google Glass, a wearable, eyeglasses-like device to summon up information. But Alphabet also has a significant cloud operation, which trails only those of Amazon and Microsoft in size. Plus, an entire subsidiary is devoted to “moonshots”: driverless cars, artificial intelligence, robotics, etc. Some eventually may pay off.
Amazon
The leader in e-commerce and cloud computing, the company also sports a king-sized stock price, around $2,800, and hasn’t had a split in this century. There were three splits in the past, all in the 1990s. Wall Street rumors swirl that another one is in the offing, which would make the shares more affordable. A 10-1 split would lower the price to $280. As you can see from the delay in splitting, Amazon won’t be hurried on matters financial. For years, the company got along with no or small profits, as it plowed money back into building the business.
That long-term strategy was a key reason it rules both online retailing and cloud operations. Overnight shipping, gigantic warehouses and expansive server farms aren’t cheap. Recently, Amazon has been putting up some stellar numbers, although much of its profit comes from Amazon Web Services (AWS). “Amazon shareholders are told to be patient,” says Kayne Anderson Rudnick’s Biel.
Amazon has made some questionable moves, in the view of Columbia’s Knee: buying upscale supermarket chain Whole Foods and movie studio MGM, apparently to bolster its video streaming unit. “Yet despite missteps, Amazon has a culture of relentlessness,” Knee adds, and that has led to “some wildly successful unrelated businesses,” like AWS.
Meta Platforms
While investors may be struggling with Facebook’s new name, much as rock fans once did with the Artist Formerly Known as Prince, the switch shows CEO Mark Zuckerberg’s pioneering spirit. Or perhaps his sense of self-preservation, attempting to distract investors from the company’s woes.
The guy who invented the world’s leading social network has ambitions in the metaverse, and to that end bought virtual reality outfit Oculus. Meta does enjoy good earnings and revenues, with a solid ad base. It runs a close second behind Alphabet in digital ad revenue. “Facebook is a consumer staple,” Direxion’s Mazza says.
Whether the new strategy will pan out is hard to say. The company faces signs of stagnating user growth and shrinking engagement in the US and Europe. Then comes the cascade of controversies. Of all the Big Five, Meta is taking the most heat as a platform for misinformation and hate speech. Internal documents, which an ex-employee provided to Congress, detail numerous apparent corporate shortcomings, such as Instagram’s alleged ill effects on some teenage girls.
Yes, someday the members of the Big Five may stumble and fall for good. But short-term, that’s not terribly likely. Meaning investors that spot buying opportunities may not want to pass them up.
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