On Sale: Time to Buy Tech Stocks?

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All it took was a few days.

In just a few days, gains from the ASX 200 disappeared.

US investors are looking at a similar situation.

The recent global sell-off spoiled a 9% run for the S&P 500 (largest 500 US stocks). Now, investors are coming to terms with a 2.6% return in a little over 10 months.

If you’ve been caught in the sell-off, you might be feeling a little helpless. Investors are selling almost everything…the good, the bad, and the ugly.

Yet what you have is nothing compared to any real decline.

Do you remember what it was like in 2008? It didn’t matter what stock. Everything was going down. Investors ran for exits. They didn’t care what price. They just wanted cash.

It was then a cashed up billionaire did something he rarely ever does. Warren Buffett went to work, making billions available to cash strapped businesses.

For example, Buffett pumped $5 billion into Goldman Sachs shortly after Lehman Brothers collapsed, a massive boost of confidence in Goldman that shored up its stock price,The Week writes.

Another example: Buffett helped finance Mars’ $23 billion purchase of Wrigley back in the spring of 2008, at a time when big-time acquisitions were quickly falling out of fashion. Mars recently bought back $4.4 billion in bonds from Berkshire Hathaway, resulting in about $680 million in profits for Berkshire, says the Journal.

According to a 2013 article in The Wall Street Journal, Buffett cleared about US$10 billion from his 2008 investments five years later.

Again, what you’re seeing is really a very small market wide sell-off. It hardly compares to 2008 when the streets were paved with bargains.

Even so…is it again time to start using your cash?

The alternative to risky stocks

If you’re scratching your head over recent declines, look no further than bond yields.

The yield of a bond is its annual coupon payments divided by its price. Think of it as the return you get for holding a bond until it matures.

Right now in the US, you can pick up a 10-year government bond that yields 3.17%. In Australia, the equivalent is slightly lower (2.70%).

Because these bonds are backed by ‘stable’ governments, you might call 3.17% and 2.70% the risk free rate.

When these yields rise (bond prices fall), stocks become less attractive. Why? Because the gap between potential stock returns and what you can earn risk free narrows.

Why sit in stocks, which are risky, when you can earn a similar return in AAA bonds?

Just before 2017, the All Ordinaries had a PE of 28, which implies an earnings yield (inverse of the PE) of just 3.8%. By mid-2018, that earnings yield rose to 5%, thanks mostly to rising earnings. And now because of falling prices, Aussie stocks are yielding 5.7%.

Can this rise further? Sure can, if prices drop further.

And any further price drops will likely be concentrated in tech. After all, tech companies are some of the most expensive (on a PE basis).

Just look at what’s happened to darlings like WiseTech Global Ltd [ASX:WTC], Afterpay Touch Group Ltd [ASX:APT] and Altium Ltd [ASX:ALU]. All three are down more than 20% in the past few days.

Question is are these declines warranted?

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Why you should target tech stocks

Sure, bond yields might be moving up, in the US at least. It makes stocks (collectively) more expensive. But why target tech stocks?

Is it just because of their high PEs? If so, I believe now would be a great time to look at tech companies while prices are down.

From the Australian Financial Review:

The carnage on the ASX follows a near-correction by the Nasdaq Composite index last week, the home of the FAANG stocks Facebook, Amazon, Apple, Netflix and Google.

‘…Asia’s digital giants have fared even worse, with Japan’s SoftBank on Monday plunging more than 7 per cent to extend its losses to almost 20 per cent since September 28. SoftBank is a backer of Uber and WeWork.

‘…The origins of the correction in tech, favoured by growth investors, lie with moves in the bond market where the yield on the benchmark US 10-year Treasuries has inched up to 3.2 per cent. It is currently at 3.15 per cent.

Of course you shouldn’t just buy any old tech stock. You’ve still got to do the research. You’ve got to understand what kind of business you’re buying and the prospects of the industry.

That said, there are multiple tech industries continuing their inevitable rise, which are chock full of opportunities.

One such industry is data.

Why data is an industry you should invest in

Data consumption growth is insane!

At its current growth rate, we will consume seven times more data by 2021. According to Professor Ian Bitterlin, this kind of growth just isn’t sustainable with current connective technologies.

For example, by 2025, IoT devices will add 46 TWh of consumption to the global electric grids (2). On top of that, Bitcoin and Ethereum cryptocurrencies already consume more energy than some countries. If we add a complete cryptography based economic system and widespread use of electric cars, the problem becomes acute (3), but we will explore this separately. And that it is just electricity, leaving out material depletion (4).

MoneyMorning 17-10-18

Source: Medium
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It’s why so many companies and countries are fasting developing 5G. South China Morning Post writes:

The fifth generation of mobile technology is more than just fast data speeds and greater network capacity. It also provides a foundation for connecting an unlimited number of machines with other machines, which communicate every day.

A 5G network will support: a million connected devices per square kilometre; 1 millisecond latency, or the amount of time a packet of data takes to get from one point to another; and peak data download speeds of up to 20 gigabits per second.

Those closest to achieving 5G include Australia, the US and China. The latter believes 5G could be the solution to their manufacturer-led economic growth problem.

You might know this already, but China exports a whole lot. They’ve got cheap labour and a lot of people. Put them together and you get a competitive advantage in manufacturing.

But cheap labour is not something you can rely upon forever, especially if you want household wealth and living standards to improve.

So how does 5G solve this problem?

Automated factories, connected supply chains and potentially high value added manufacturing. China could grow their economy through efficiencies and by producing higher value added goods.

Doing so would not only secure economic growth, it’ll boost wages and living standards across the board.

Of course, this might still be a few years away yet. And it could be the same story for multiple ASX-listed stocks trying to profit from our explosive demand for data.

So…while prices are down, do some digging, find some opportunities and who knows…you might be able to buy ‘THE NEXT BIG THING’ for cheap.

Your friend,

Harje Ronngard,
Editor, Money Morning

PS: How to get in on these high-risk tech plays with massive potential. Find out here.

About Money Morning Editorial

Money Morning is Australia’s most outspoken financial news service. Your Money Morning editorial team are not afraid to tell it like it is. From calling out politicians to taking on the housing industry, our aim is to cut through the hype and BS to help you make sense of the…

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