The US technology sector has been one of the best performing areas this year. Cost cutting measures ...
The US technology sector has been one of the best performing areas this year. Cost cutting measures undertaken by companies have been successful and value has been seen in large cap stocks and companies that have come up with innovative ideas.
However, the industry is still not without its problems. Internet and semi-conductor stocks are still considered to be too expensive, demand outlook is poor and companies could face extra costs because of new accounting laws.
Greg Kerr, fund manager of the Global Technology fund at M&G, says the sector bottomed in October 2002 and by the end of November 2002 it had gone up by almost 50% on the S&P 500 Technology index. Although it has dropped back slightly since then most fund managers have overweight positions in the sector.
According to Kerr, profits have been slightly better than expected through the widespread use of cost cutting measures. Bolko Hohaus, portfolio manager at Lombard Odier, says: 'The major drivers for the US technology market have been from innovative companies. For example, Intel has devised a new chip, Centrino, that enables someone to be able to use the internet without any connection.
'The digital photography market is also going well. Companies have devised higher resolution products and it is now possible to store pictures on a PC from a camera.'
Hohaus does not expect to see as many cuts in the technology sector next year and expects things will keep improving. His view is as long as there are good signs from the US economy, technology will outperform the overall market and it will be prudent to be overweight.
However, Kerr thinks technology is still overvalued. He sees the most value in only a handful of large-cap names such as IBM, Microsoft, Intel, Cisco and Dell. These five stocks account for 50% of the index and are what investors purchased when the market rallied. Nevertheless some of these stocks are not without their problems.
Although Intel has performed well and looks to continue its success with the new mobile Centrino chip, Kerr warns the trouble is most of the company's revenue comes from the PC world. Much of its future growth will depend on the laptop side of the business and the company will have to do well to survive. He forecasts every 3% growth in the laptop market will compensate for 1% decline in PC business.
Kerr also warns that although Microsoft has delivered good news so far he questions what will happen at the end of June when its sales policy ends. The policy has been that if a person signs before June 2003 they will get a good deal. Furthermore, IBM has been doing less well because of the expense of keeping its Unix systems updated in the flight for quality against competitors.
On the other hand Kerr believes Dell has been performing well because of its good business model. It has a direct model and its sales have been growing.
Hohaus sees good performance in the semi-conductor industry because of innovation. New research has been developed to be able to send signals to cash registers, so if a customer walks out without paying it will notify the cash register.
But, Kerr views the semi-conductor industry as his least favourite and has the highest expense ratio multiples.
Hohaus views the internet stocks as expensive. He warns they have gone up 180% since last July.
According to Kerr internet stocks such as Amazon and E Bay are proving to be good business models. The big successful internet companies are in a strong position, but a mini bubble exists in building at the moment as they are too expensive and are trading at expensive multiples.
Other problems that may face the technology industry is that companies could be impacted by new accounting laws that make it compulsory to offer stock option issues to employees, says Kerr. This will be an extra cost for businesses.
Kerr thinks in the long run the fundamentals of technology will be determined by corporate profitability returning and there are reasonable growth prospects for the industry ' but the best is over. He warns the demand outlook is poor and there has not been a rebound in technology spending.
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