Please find below our Investment Market Update as at 29th July 2020.
Blue Sky Investment Market Update
Last week in part one of my exploration of risk, I wrote about risk from a personal perspective. Today, part two is focussed on investment risk with a particular leaning towards the technology sector.
“A strange thing has been happening since the turn of the year. Over and above the COVID obvious that is. From an investor’s perspective, there is growing evidence that what was considered higher risk is becoming lower risk and what we thought was lower risk is becoming higher risk.”
This was something I received from 8AM Global and it reinforced the conversations that had taken place within the Blue Sky Investment Committee recently.
Tech stocks, are they risky?
Leading the market out of the doldrums has been technology stocks. Technology is having a huge impact on our lives and is facilitating so many facets of how we live, work and interact; lockdown being a case in point. If anything, this period of reflection has led to many non tech-savvy consumers embracing technology in a way they could never have imagined.
As technology is becoming such an integral part of our lives, it could be argued that a sector which was once deemed risky is no longer positioned on the extremities of risk and can now be considered mainstream.
Those indices/funds which haven’t had a strong exposure to technology have certainly missed out on performance, yet for the most part, only those with a higher risk disposition have enjoyed the ride with technology stocks.
The FTSE 100 on a price basis has delivered -6.15% over the last five years. Guess what… it has very little exposure to technology stocks! The technology and telecommunications sector conversely has delivered a return of 159.99% over the same period, up until 28th July 2020. Mainly due to just a handful of stocks.
The differential is huge but, of course, the volatility can be significant. Recently, Netflix shares fell by 9.1% in one day, although this was attributed to them attracting less subscribers than expected after the avalanche of new subscribers they saw during lockdown.
Amazon shares fell recently too, by circa 7% in one week, only to recover this loss in just one day, a week later. So, technology stocks are certainly still risky, and they weren’t immune from the market shocks we experienced in the early days of Covid but, they do tend to recover more quickly. However, technology stocks typically have high valuations to earnings and operate in a very competitive environment where a sudden success of one company can be to the severe detriment of another.
Chasing the pack
One big issue around technology stocks is that many investors are wanting to own the large cap technology stocks like Amazon and Microsoft. Both of these companies have performed well during the crisis and expectations are that they will continue their excellent performance. Nothing goes up in a straight line though and of course, with many fund managers believing they can’t afford not to buy these stocks, by nature there is a concentration risk.
Experienced investors will remember the dot.com bubble bursting with stock prices being decimated and many companies going bust. It was a barmy time because new Initial Public Offerings saw their share prices rise astronomically and many were vastly over inflated before they had earned money in any capacity. Now, at least, we have some substance in the technology sector in terms of earnings. The rub this time is that some of the larger players may well have got too big.
Later today, Wednesday 29th July, Amazon, Facebook, Alphabet and Apple will all face Congress to counter claims that they unfairly stifle competition. They will be stating how much they have done for America and highlighting the threat of Chinese competition who operate under a very different value system.
Perhaps it’s time to diversify
We spoke to Legal and General Investment Management (LGIM) recently as part of our quarterly review and I think it’s fair to say that they have been wary of a concentration risk around the large cap technology companies in the US. In part, diversifying away from these stocks, performance wise, has hurt them in the short-term, but it does seem to make sense to consider alternative strategies to compliment the large cap technology stocks.
If Biden is elected President, then this adds another dimension to the landscape and if the large tech companies are already having to justify that they aren’t stifling competition, they may well come under greater scrutiny if there is a different political regime in power.
LGIM like the Artificial intelligence space which is playing an increasingly important role in our lives. Some other fund managers have veered away from companies which rely on large deals or transactions.
Some of the smaller and mid-cap funds are now presenting opportunities. They were sold off during the crisis but haven’t bounced back in the way large cap stock counterparts have. Those with good long-term prospects appear to be attractive at these valuations.
Technology stocks certainly aren’t for the feint hearted at times, but it’s becoming increasingly difficult to ignore this space.
Diversification away from the few large cap stocks driving returns makes sense, even if in the short-term, it tempers returns. All of our portfolios except the most cautious, have an exposure to technology, but our highest risk portfolio, managed in house, has a 25% technology exposure. We also have 25% in health care stocks in this portfolio which have also delivered strong performance during the crisis, for obvious reasons.
Technology is now integral to how we live our lives and so for most investors we believe they should have an exposure. Traditionally, investing in technology has been deemed to be of a high-risk nature but as the market has matured there are all manner of ways to enter into this sector without an over-reliance on the big tech stocks.
In contrast, some of the more established sectors like retail, banks and oil companies which were once thought to be safer havens, in the context of stocks, certainly look considerably riskier than an exposure to technology stocks.
The investment compass has recalibrated and it’s important that your investments do the same.
We are right in the thrust of earnings season with some of the largest companies reporting this week. Of particular interest, will be the guidance notes from companies about expectations of future earnings, especially in light of a resurgence in the Covid-19 virus.
As I have reported recently, it is very difficult to see how the markets can push on from here, in general terms, with so much uncertainty around the virus, certainly in the near term. Consumer confidence in the US is falling amidst uncertainty around how the economy will recover when there isn’t a clear pathway forward.
The stimulus injected by the authorities have underpinned stock prices but if matters deteriorate further then more ‘rabbits will have to be pulled out of the hat’ but at what costs over the medium to long-term? That however is for another day, for the time being, the focus is on the here and now.
Enjoy the rest of the week in the sunshine.
Gary and the Investment Team
Please Note: This communication should not be read as giving specific advice regarding your personal circumstances. This would only be given following detailed assessment of your individual needs. The value of investments may fall as well as rise; you may get back less than invested. Past performance is not necessarily a guide to future returns.