Technology stocks and sector-related exchange traded funds have been among the best performers this year, but some are growing concerned over the lofty valuations in an extended bull market.
Investors, though, don’t have to be too worried about tech valuations as they are nowhere near dotcom crisis-era highs.
The Fidelity MSCI Information Technology Index ETF (NYSEArca: FTEC), which tracks the MSCI USA IMI Information Technology Index, is up 19.8% year-to-date, compared to the 10.3% gain in the S&P 500.
There are still a number of strong supports that could help bolster the technology sector’s outlook, even in the face of rising valuations.
“Fundamental factors have the potential for long trajectory for tech outperformance,” Denise Chisholm, Fidelity sector strategist, told ETF Trends in a call.
For example, earnings growth, rebound in operating margin and increased capital spending have reinforced the sector outlook. According to Fidelity Investments, the technology sector exhibits three positive indicators in the second quarter, including a positive outlook in the current business cycle, improving fundamentals and attractive relative strength.
“Technology fundamentals looked solid in Q2, driven by accelerating EBITDA (earnings before interest, taxes, depreciation, and amortization) growth and healthy free-cash-flow margins,” according to Fidelity’s Quarterly Sector Update.
Technology has been the best performer year-to-date, which has fueled concerns over valuations. The sector, though, remains well-positioned. Some critics are worried about the top-heavy market and a potential “FANG” bubble – the acronym associated with the four most popular tech companies, including Facebook (NasdaqGS: FB), Apple (NasdaqGS: AAPL), Netflix (NasdaqGS: NFLX) and Alphabet (NasdaqGS: GOOGL) Google. The concerns may be overstated and the segment’s fundamentals remain strong even in light of the recent gains.
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The tech sector valuations are currently trading near 19x, compared to historical averages of 18x and the peak of 70x during the dotcom boom.
The sector has “changed its stripes in a positive direction,” Chisholm said, commenting on increased free-cash flow, rising operating margins and other positive metrics when compared to previous bubbles, namely the 2000 dotcom crash
Moreover, momentum could keep technology stocks going. When tech has outperformed the broad market by over 10% over the past 6 months, it typically continued to beat the market.
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