Rising valuations and year-to-date gains in major technology stocks are causing some investors to diversify away from the sector that has led markets for years. This year, technology stocks have soared, and their large weighting in the S&P 500 has helped push the index to new highs, with a 25.1 percent year-to-date gain in 2021.
Some investors are concerned that valuations have reached nosebleed levels. Alphabet, the parent company of Google, trades at a 12-month forward price-to-earnings ratio of 26.6, compared to the S&P 500’s valuation of 21.1. Apple Inc is valued at 26.2 times forward earnings, while the information technology sector, which is up nearly 28 percent this year, is valued at 26.4 times forward earnings.
While gains in large technology stocks have boosted the S&P for more than a decade, their heavy weighting in the index could sink it if tech falls out of favour. According to Refinitiv Datastream, the three most valuable companies on Wall Street, Microsoft, Apple, and Amazon, account for nearly 15% of the S&P 500’s market capitalization.
In last month’s BOFA, Global Research Survey, fund managers named “long tech” as the market’s most crowded trade, and they collectively reduced their “overweight” positions in tech stocks to the lowest level since May. According to a recent analysis by research firm Bernstein, the top four most crowded individual stocks in the market are Microsoft, Apple, Alphabet, and Amazon, taking into account factors such as institutional ownership and price momentum. Over the last decade, limiting exposure to technology stocks has tended to hurt portfolio performance in the long run, making investors wary of drastically reducing their holdings. Nonetheless, some investors are looking to diversify their portfolios in order to reduce their exposure to the sector’s biggest names.
“For many years, technology has been a winning group, and we expect it to continue to be so in the future,” they wrote in a Friday report. “However, as investors consider where to allocate capital today, we believe they will gravitate toward sectors with greater exposure to improving economic fundamentals.”
Many investors continue to be bullish on large tech-focused stocks, citing their strong earnings and track record of dynamic growth. Saira Malik, Nuveen’s chief investment officer for global equities, is looking for tech companies that may benefit from rising inflation but have lagged the overall market rally.
She believes Amazon.com Inc, which has lagged the market with an 8 percent gain this year, will be one such “catch up trade,” fueled by e-commerce growth.