So, how cheap are tech stocks? Historically cheap, according to Bernstein Research analyst Toni Sacconaghi.
In a research report today, Sacconaghi asserts that tech shares are trading at their lowest level relative to the S&P 500 in nearly 20 years, despite historically high cash balances. He notes that tech stocks trade at 1.0x the S&P 500 on a forward P/E basis, the lowest level since March 1991, and well below the historical average of 1.31x since 1977. This is despite the fact that the companies have net cash balance at or near record levels on both absolute terms and relative to the S&P 500. He also notes that returns on invested capital relative to the S&P have expanded in recent years - and he notes that the beta for tech shares relative to the S&P is at the lowest level since early 1996. Not least, the analyst points out that the depressed valuations are across every sector, affecting hardware, software and services. And he points out that the valuation compression has largely happened over the last few years - at the end of 2007, the sector traded at 1.32x the S&P multiple, about in line with historical averages.
OK, so the obvious questions are these: why, why and why?See also yesterday's "P/E Expansion & Contraction".
Here’s Sacconaghi’s thinking on what might be contributing to the low valuations:
- There’s a perception that secular growth in tech has slowed. Sacconaghi notes that the market appears to be “punishing” shares of tech bellwethers like Microsoft, IBM, Cisco and Google where growth is or appears to be decelerating. He notes that tech growth relative to the S&P 500 has declined from pre-2007 levels, and were worse than the S&P in the downturn. Nonetheless, he points out that revenue and profits at tech companies have been stronger than the S&P coming out of the downturn, but still valuations are depressed. And he adds that tech as a percentage of capital spending should continue to increase. He expects tech revenue growth going forward of 7%-8%; while that’s lower than the 10%-plus average growth over the last two decades, he contends the lower valuations more than reflect the slower expansion....MORE