Investing in tech stocks after the big bang

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By Lei Qiu

Tech stocks have been crushed this year, leading some investors to question the future of the sector. But despite the decline, we think technological innovation is entering a new phase in several areas poised for strong growth.

Investors in technology, stocks were hit hard. Tech stocks on the MSCI World Index have tumbled nearly 33% this year through Sept. 30 in local currency. In the US, the Nasdaq Composite fell by a similar amount, while unprofitable tech stocks suffered even bigger losses. After several years of steady gains, investors are facing a reckoning. Is this year a correction to align stock valuations with the company’s realistic earnings? Or does it reflect a major slowdown in a sector that has matured since the pandemic’s accelerated consumer use of technology? Maybe there just isn’t much growth left.

Questions like these are inevitable, but they miss the point. Indeed, the technology market is changing, innovation is expanding, and new areas of leadership are emerging. Investors looking for growth in the right places can find exciting opportunities.

What has changed on the innovation curve?

Over the past two decades, innovation has been driven by the spread of broadband and mobility. Since the release of the iPhone in 2007, billions of people around the world have embraced the newfound ability to surf, shop and play through their mobile devices. This has led to a huge growth of companies that power the mobile ecosystems, including network providers, chip makers and handset makers.

Tech and new media giants have enjoyed explosive growth. Facebook, Apple, Amazon, Netflix and Google have come to be known as the FAANGs, a group of high-yield mega-cap stocks that seemed unstoppable until this year.

Some of these markets are mature (Display). For example, global smartphone penetration has surpassed 100% and unit shipments are slowing. The rapid growth in social media may also be peaking. Certainly, companies at the heart of the last digital decade are still likely to achieve growth. But they have become like utilities – companies that provide basic services and have perhaps reached maximum profitability.

Consumer technology as the new utility: signs of maturing growth

Annual smartphone shipments/time spent on social media (US)

The analysis is provided for illustrative purposes only and is subject to revision. *Calculation takes into account total users of each social media service and minutes per user each quarter. As of June 30, 2022 Source: Sensor Tower and AllianceBernstein (AB)

What next? Technology enabled infrastructure transformation

But the technology is not dead. On the contrary, innovation is fueling the transformation of a technology-enabled infrastructure that has become a necessity due to changes in consumer behavior. Any company that wants to survive and thrive in a digital world must strategically address its technology infrastructure. As a result, we believe the demand for advanced infrastructure technologies will continue, even in a gloomy economic environment.

This is because the future of society is rooted in digital technology. In the new post-pandemic normal, companies must ensure the flexibility and efficiency of their workforce. To do this, they must quickly move workloads to the cloud using business applications and data management tools (Display). This requires more spending on cloud infrastructure to ensure faster and more reliable processing and response, along with cybersecurity tools to protect the virtual work environment.

The Dawn of the Next Phase of Growth: Technology-Based Infrastructure Transformation

Global Public Cloud Revenue by Segment/Global Digital Workload by Segment: Total Spend

The analysis is provided for illustrative purposes only and is subject to revision. *Based on International Data Corporation (IDC) Worldwide Semiannual Public Cloud Services Tracker, May 2021. †PaaS is Platform as a Service. Iaas is infrastructure as a service. As of June 30, 2022. Source: IDC, Jeffries and AB

Inflation is another driver of technology spending as companies face cost pressures due to labor and resource shortages. Companies around the world are re-examining supply chain vulnerabilities as they seek to secure more activities and achieve energy independence amid a changing geopolitical landscape. Technological innovation can alleviate cost deflation in many ways.

Where are the next big opportunities?

Different types of companies will require different technology solutions. However, some clear trends are already visible.

Robotics is on the rise (Display). This isn’t just happening in the automotive and electronics industries, which were early adopters. From healthcare to agriculture to retail and logistics, companies are finding that robotics can unleash efficiencies and cost savings, with faster and scarier computing power than ever before and AI capabilities to make decisions that mimic the human ones.

Robots and the Internet of Things are driving the wave of innovation

PC & Mobile vs. IoT/Industrial Robot Supply

The analysis is provided for illustrative purposes only and is subject to revision. As of June 30, 2022. Source: International Federation of Robots and AB

Humans and machines are also communicating in new ways through the Internet of Things. Smart, low-cost sensors enable the interconnection of every machine, point of payment and product, changing communication between people and machines – and between machines. This creates the “Internet of Everything” and redefines the future of manufacturing and transportation with huge commercial potential.

Meanwhile, global efforts to achieve energy independence also depend on technology. Innovations will make solar and wind power, as well as electric vehicles, more economical. Energy generation, storage and management require technological solutions.

What do all these things have in common? First, the new wave of innovations will transcend economic stress as they target growing and enduring needs. Second, the companies enabling technological innovation are still developing and in many parts of the market the leaders are still being defined. Market historians will recall how legends and leaders constantly change. From the 1950s to the 1970s to the Four Horsemen of the 1990s (Microsoft, Dell, Cisco and Intel) to the FAANG, this is a normal process of leadership renewal, especially in the technology sector.

Stock investors should not be deterred by this year’s decline in the technology sector. Tech stocks are now trading at much more attractive valuations than a year ago, creating attractive entry points for those with solid business models. The time is right to identify the next generation of innovative technology leaders who are transforming the world’s industrial economies and unlocking strong potential for capital returns along the way.

The views expressed herein do not constitute research, investment advice or trading recommendations and do not necessarily represent the views of all of AB’s portfolio management teams. Views are subject to change over time.

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Editor’s note: The summary points for this article were selected by the editors of Seeking Alpha.

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