Technology companies sitting on cash are well positioned to capitalise on the market upturn while synergies with telecom companies are boosting both sectors, as Emma Dunkley reports
The technology industry has long left behind the woes from the bursting of the dot-com bubble and has emerged as one of the better performing sectors, especially over the last year.
The crash at the start of this millennium compelled technology companies to implement measures and robust infrastructure which has stood them in good stead for the current financial crisis.
Pictet global technology analyst Navdeep Sheera says companies that bolstered their framework through the dot-com crisis have subsequently been sitting on cash. As a result, they have not generally felt the repercussions of the recession to the same extent as other industries. He says: “These technology companies have already downsized operations to be able to cope with this sort of revenue stream. When a recovery does occur, they can then expand without necessarily inducing all of that cost back. The companies are in a good earning leverage position.”
Technology has been one of the leaders of the pack since around March this year according to Sheera. He says: “If you look at consumer spend, which is still the biggest driver for technology companies, it has not been down this year.” For example, he says growth in computer sales has been flat in 2009 compared with 2008, despite experiencing arguably the largest recession in 25 years. He adds: “Next year, the economic impediments will have gone away, so computer units and mobile phones will probably increase by double digit percentages.”
In Europe, there are around 10 investable technology companies, compared with approximately 60 in the US, according to Sheera. He says: “If you look broadly across Europe, there are only a handful of large companies which have technology investments. For example Nokia and Ericsson are well established in mobile phones and mobile phone infrastructure.” He highlights there is increasing shared activity between telecom and technology companies, which is mutually boosting profitability. The technology company Apple, for example, has manoeuvred into the telecoms industry with the iPhone and its selection of operators.
Similarly, Global Trends Investments president Tom Lydon says even though companies are carefully watching their budgets, it seems technology spending is the last area to be cut. He says: “The average corporation understands this economic downtrend will eventually end, and so in order to compete when it recovers, they’re going to need current technology. This bodes well for technology companies and therefore ETFs on this sector.”
Over three and six-month periods, the Direxion Daily Technology Bull 3x Shares was the best performing fund, returning 29.14% and 82.81% in the respective time periods. The Ultra Technology ProShares ETF followed, returning 22.30% and 51.13% over three and six months. The Direxion fund returns three times the daily index percentage change compared with the ProShares ETF, which delivers twice the daily performance of the underlying DJ US Technology Total Return index.
DirexionShares senior portfolio manager Adam Gould says the three-beta bull and bear ETFs allow investors to magnify potential gains, although they also amplify possible losses. He says: “If you have a strong opinion and you don’t have access to leverage, then these ETFs give you an opportunity to gain that exposure. That being said, positions need to be constantly monitored due to the daily rebalancing which occurs in these products.”
According to Gould, technology has been the leader in the market recovery along with financials, although the sector has been top-heavy, dominated by market players such as Apple and Google. As a result, the sector is concentrated among a few companies that have performed particularly well. He says rather than hand-picking a couple of companies, ETFs provide broad exposure to their benchmark index. He adds: “So if you have an opinion on how a sector is going to perform, but don’t have the time or information to break down what’s happening with each individual company in the index, ETFs provide diversification.”
In terms of fund construction, the bull funds use a portion of the money to buy stocks that constitute the index, while the leverage is achieved through a total return swap. Conversely, the bear fund shorts a total return swap. Gould says: “We have a handful of swap counterparties, all of which are major investment banks. All swaps are marked to market daily.”
Over the three and five-year periods, the EasyETF Euro Telecoms fund was the best performing, returning 48.92% and 67.76% respectively. Danièle Tohmé-Adet, head of product development at BNP Paribas EasyETF, says a lot of speculation has been triggered over the last month in the Eurozone telecoms industry, based on the sale of telecom licenses which will hamper certain countries in the region.
The underlying DJ Euro Stoxx Telecom Total Return index reinvests dividends back into the fund. Tohmé-Adet says: “In the last three and five-year periods, dividends were interesting in the technology and telecoms sector. Both a good dividend approach and performance from the sector itself means there is great potential in this sector, especially in emerging market technology.”
ETFs are also a particularly efficient vehicle for monitoring sectoral rotation, due to their flexibility says Tohmé-Adet. She adds: “There are sectors that will perform when the crisis is over and can be used for a pick-up in the cycle. These are the offensives, such as technology.” She explains technology will rise in line with the recovery from the crisis. “When you combine the emerging markets and technology, you get a double rebound. Emerging market countries such as Taiwan, which specialises in technology, will offer this.”
Tohmé-Adet warns the sector entails a level of concentration risk, as it is less diversified due to companies merging and other such activities occurring within the last couple of years, leading to fewer components in the underlying indices. She says investors do not tend to stay in a sector for more than a few months, as they can be easily over-bought or sold. She adds: “Investors need to monitor entry and exit points; this is why ETFs are very useful for accessing sectors, even for institutional investors using index funds as their core allocation.”
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