Two charts on tech, the “IT” sector

Manley on the StreetThis week, I am going to try to say little and show much. The commentary will be briefer than normal because I want the reader to focus on two graphs that are more eloquent than anything I could say. They are charts on the history of the information technology (IT) sector that show its growth and valuation relative to that of the S&P 500 Index.

We have been advocates of investing in the IT sector for some time, but we recently raised our recommendation from overweight to double overweight. It is the only sector on which we place that much emphasis.

There are a number of fundamental reasons for our doing this. Our economy and, more recently, the European economy are beginning to recover from the damage and stagnation that accompanied and followed the global financial crisis of 2008–2009. We have a bias toward industrial cyclicals and a belief that the market is about to rotate in that direction. Further, as Europe’s recession disproportionately harmed IT companies’ revenue and earnings growth, Europe’s recovery may disproportionately benefit them. On a more philosophical basis, we believe that the high level of profitability enjoyed by U.S. corporations in a sluggish economic environment is a direct result of the implementation of technology to achieve productivity gains. This technology upgrade cycle is still underway, and corporations that continue to invest in new technology could be amply repaid in future growth.

Then, there are the charts.

The first chart displays the relative earnings-per-share growth of IT versus the market (S&P 500 Index). It shows a typical recovery gain after the bottom of the global recession, acceleration into 2011, and then a sharp pullback as Europe slipped into a self-induced economic coma. Most recently (and, I believe, most important), the reader can see what appears to be the beginning of a snapback occasioned by a European and American recovery.

S&P500 Information Technology long-term earnings growth relative to the S&P 500

Source: FactSet
Past performance is no guarantee of future results.

The second graph may be more dramatic. It displays a history of the price/earnings ratio of the IT sector relative to that of the S&P 500 Index. After a decade of erosion, that line appears to have begun to stabilize at around a market multiple. By historical standards, that seems fairly low to me. Moreover, I can infer from this that, currently, investors in tech can buy into the sector near record historical lows just as relative earnings momentum appears to be turning up.

S&P 500 Information Technology price to earnings ratio for the last twelve months relative to the S&P 500

Source: FactSet
Past performance is no guarantee of future results.

There are no guarantees, but when combined with the fundamental story, this seems to be a pretty persuasive argument to look long and hard at the opportunities in IT.

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