Behind the Tech Stock Resurgence, Warning Bells … Or Not

Could tech stocks be hijacking the U.S. stock market?

As computer and software equities drive seemingly ever higher, with several marquee names such as Microsoft and Alphabet having doubled off levels seen just a few years ago, those companies are exhibiting more influence over the overall direction of the stock market. After all, as market capitalizations grow, weighted indices tend to move in the same direction as the heaviest hitters.

Bloomberg noted Monday (Aug. 22) that the tech companies now represent just about 21 percent of the Standard & Poor’s Index value, and that weighting is at the highest level seen in 15 years.

Shades of the tech crash seen at the beginning of the Millennium?

Perhaps not. Here’s why, as the newswire stated: Things may be different this time.  The U.S. economy is becoming a bit more skewed to tech in general (touching everything from consumer goods to payments), and the group has also been marked by earnings growth.  Investors like earnings growth and are usually happy to chase stocks in firms that show healthy bottom line momentum.  Chasing those stocks means higher stock prices, of course.  Measures of tech subsets within broader market bourses – such as the S&P Information Technology Index, or the tech-heavy NASDAQ — have surged more than 20 percent off their previous lows.

Headline numbers like that may be enough to make investors skittish, especially in an environment where the tech weighting as measured by the S&P is five hundred basis points higher than banks, which have, in years past, been among the main drivers of stocks.

But as Bloomberg reported, tech firms may not be as overextended as some investors might surmise.  One key measure is the price to earnings ratio.  For the overall market (again the S&P) that multiple is 18.6x, in part because the “E” of that equation, or earnings, has been on the decline.  That’s not the case for tech, where firms have solid earnings (in contrast to the great bubble that marked the late 1990s and popped in 2000), and where the earnings contribution, computed as tech earnings as a percentage of all corporate earnings, is commensurate with its sector weighting of 21 percent.  Yet the PE ratio for that group is roughly 11 percent below average for the group over the past 20 years.  On that simple metric alone, tech stocks might have some room to run.