The recent market correction, while unnerving and unsettling to even the most seasoned investor, is ...
The recent market correction, while unnerving and unsettling to even the most seasoned investor, is not unique. Sometimes markets fall for fundamental reasons and at other times because of a collapse in investor psychology. We believe the latest setback was driven by a sea change in psychology. Fortunately sentiment can rebound much faster than deteriorating fundamentals.
Overall, the fundamentals continue to look good with the key drivers: extraordinary productivity, low inflation, strong corporate profits and strong demographics, still very much in force.
While inflation has ticked up a little over the past 12 months, we do not see it representing a major threat, as the worst is now behind us. We continue to believe looking two years out, market psychology and investors' expectations are where the greatest vulnerability lies.
For the last four years, technology stocks have bottomed in June, and we see no reason to suggest this trend should change.
We believe the latest correction in the technology sector is similar to the one witnessed in 1995, when some names recovered, others did not.
The sector may be volatile during the summer months; however, by the autumn core tech as opposed to spec tech should be powering away.
A recent survey showed that only 5% of technology companies dominated for five years or more. Therefore perhaps today's favourites, the winners of the last five years, will be eclipsed by a new group of names. We believe a new era of telecoms is emerging and will transform the technological industry and the economy.
This new paradigm, coined by George Gilder, will be based on the runaway expansion of bandwidth.
The common argument against technology stocks continues to be based on valuation. DLJ strategist Thomas Galvin's work suggests that current ratings are deserved based on comparative revenue growth rates and returns on capital employed.
The median Nasdaq 100 technology firm has posted 36% sales growth and a 17% return on average capital with a forecasted price-earnings ratio of 50 times.
Meanwhile, the S&P 500 ex-technology shows only a 9% median sales gain, 7% returns on capital and a price-earnings ratio of 14. That's to say you get what you pay for.
We are not trying to argue that every technology stock is accurately priced, but the notion of broad-based irrational exuberance is misguided.
The next wall of worry for the market to endure will be the natural profit consequence of a slowing economy.
However, we believe the earnings and equity price dynamics will play out in a similar fashion to the way they did in the 1995.
Logie Cassells, manager of Capel Cure Sharp Hallmarket Growth fund
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