Global Technology Portfolio Manager Denny Fish explains positive near-term developments for the tech sector and provides an update on how artificial intelligence, the cloud and the Internet of Things are reshaping the technology sector, and the global economy in the process.
- Headway in the U.S.-China trade dispute is a favorable development for the sector, as are improving industry dynamics in the semiconductor space.
- Artificial Intelligence, the cloud and the Internet of Things continue to redefine how businesses and consumers interact with technology, and these developments should accelerate in 2020 with the rollout of 5G networks.
- Investors should be mindful of a potential rotation away from tech stocks given their recent strong run. We believe companies whose valuations are not supported by strong cash-flow generation are most at risk. Rhetoric about increasing regulatory oversight presents another risk as the U.S. election season heats up.
Where do you see the most important opportunities and risks in 2020 for the tech sector?
The apparent step back from trade brinksmanship represents an opportunity for the sector as much of its value chain flows through China and that country is a major buyer of globally sourced semiconductors (semis). Semis, in their own right, we consider to be well positioned, given favorable inventory levels and a rationalized industry structure, which should lead to strong pricing.
Within the Internet space, we continue to see a robust environment for digital advertising and e-commerce. Demand for cloud and Software as a Service products remain strong as we are only partway through the multiyear transition to these platforms. Valuations for some of these companies, however, present a risk given the rate of multiple expansion over the past year. One must remember, though, that while multiples may be stretched, in historical terms, many of these companies continue to exceed market expectations in earnings and free-cash-flow generation.
Another risk that bears monitoring is the U.S. election cycle as factions within both parties have called for a higher level of regulatory oversight of the sector, specifically large Internet platforms.
Which key themes are particularly relevant within technology?
The technology sector is writing the operating system for a digital global economy. We have identified a few key mega-themes that we believe will be most transformative. Chief among them are artificial intelligence, the cloud and the Internet of Things. These complementary themes will increase efficiencies across a range of industries, reconfigure how we work – and play – and likely spawn an array of new services and industries in the process.
An accelerant for these themes that may appear during 2020 is the rollout of 5G networks. There are many unknowns about the impending densification of wireless broadband: Will it ignite a supercycle in its own right – spurring novel business models – or will it just sustain the smartphone growth that has occurred under 4G? In either case, we believe 5G will likely be a tailwind for the companies that enable the computing power and connectivity required for these networks to reach their potential.
What surprised you about the tech sector or their market performance in 2019?
In 2019, we witnessed a greater amount of rotation among tech sub-sectors than usual. Some of this was likely underpinned by fundamentals and reflective of developments in the broader market. Semi stocks, for example, were beaten down during the early part of the year as the industry worked through an inventory overhang. Their depressed valuations relative to other sub-sectors, in a sense, made them the tech sector’s version of value stocks, a group that has been unloved by the broader market for quite some time. Optimism that the worst was behind semis led to a pronounced rotation back into the space and marked outperformance over the latter half of the year.
Another surprise was the loss of appetite for late-stage private companies coming to the market. The year had plenty of examples of highly valued private companies with no clear path to profitability falling flat in their public market debut. We took this as a sign that investors need to perform more rigorous due diligence on new businesses rather than just buying the hype.
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