Sector strategy

Special Commentary

November 2, 2022

Downgrading Technology – finding better opportunities elsewhere


Today, we are downgrading the Technology sector to underweight from neutral.

  • Despite being hit hard this year, the sector’s ten-year outperformance remains substantial
  • It recently broke below an important technical price level
  • It still trades at a significant market premium, despite earnings momentum at multi-year lows
  • We are finding better opportunities in energy, industrials, health care, and staples
  • This move is consistent with our recent House Views shift to value

Although the tech sector has already been hit hard this year, it has still outpaced the S&P 500 by almost 200 percentage points over the past 10 years. This provides important context on how extreme the outperformance has been over the past decade. In our view, tech is unlikely to be market leadership in the immediate future.

Tech scores poorly in our quantitative work, and just this week, a negative technical price development occurred—the sector’s price broke below a more than 2-year relative price line.

On a fundamental basis, even with this year’s decline, the sector is still relatively expensive. It trades at a 25% premium to the S&P 500 versus a 10-year average premium of 6%.

  • Our view is such a large premium is not currently warranted. A primary reason investors tend to pay a premium for tech shares is because of strong earnings momentum. Today, we are seeing the opposite.
  • Tech’s comparative earnings trends just made a fresh two-and-a-half year low compared to the broader market. In addition, higher interest rates are pressuring valuations.

The downgrade in Tech, the largest sector within the growth style, is consistent with our recent broader move to upgrade value stocks.

With the broader market being very top heavy, we are finding better opportunities below the market’s surface.

For example, we maintain our long-standing overweight to the energy sector, which is benefitting from a greater corporate focus on profitability and supply side disruptions. 

We also would highlight industrials, where the aerospace and defense industry is helped by an increase in global defense spending, as well as reshoring and the recent stimulus package.

At the same time, we remain overweight more defensive sectors, such as healthcare and consumer staples, which should do well given our expectation for a choppier market environment and weakening economy.

Each of our overweight sectors screen well in our quantitative work and have strong relative price trends.  Of course, our sector strategy is tactical with generally a 3-to-12-month time horizon. Thus, as the data shifts, we will update accordingly, but this is where we stand today. 

To read the publication in its entirety, including our comprehensive view on what this means for investors, please click the button below "Download PDF".

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