By Michael Brush
4. Tech has an edge when labor costs are rising
While companies in retail, restaurants, hotels and other service sectors will suffer a hit to margins because of rising labor costs, tech companies typically do not have this problem. They employ relatively fewer people.
“Perhaps the best way to play the uncertainty surrounding labor costs is technology,” says Leuthold Group chief investment strategist James Paulsen. “Historically, the relative investment performance of this sector has been largely invariant to such pressures.”
5. Interest-rate and inflation fears are overblown
Ironically, tech companies will come to the rescue – and literally save their own stocks. Why? Capital spending rose a lot in the past year. This tells us productivity will continue to increase. That makes it easier for companies to avoid passing higher labor costs on to consumers in the form of price hikes.
“Long-term growth of this economy is going to have to be driven by productivity growth, and technology will be the key to create that productivity,” says Miskin.
What to buy
The arms dealers in chips
Chip and chip manufacturing companies look underpriced, says Chin at Cambiar Investors, and he singles out Applied Materials /zigman2/quotes/209393259/composite AMAT -3.42% . He’s worth listening to because his shop owns the stock in its Cambiar Opportunity Fund /zigman2/quotes/209711246/realtime CAMOX +2.34% . The fund outperforms its large-cap value category and the Russell 1000 Value Index /zigman2/quotes/210598148/delayed RLV +2.09% by nearly 5 percentage points annualized over the past three years, says Morningstar.
Chin cites four reasons to favor Applied Materials: the ongoing chip shortage; the reshoring of chip manufacturing to the U.S.; demand from trends like autonomous vehicles, artificial intelligence and data analytics; and competition among chip makers to improve chip computing power. “We believe Applied Materials and the industry are entering a period of much higher growth,” he says.
“It will take another four to six quarters for supply to catch up with demand and inventories,” says JP Morgan analyst Harlan Sur, who has an overweight rating on Applied Materials, KLA /zigman2/quotes/209248041/composite KLAC -2.34% and Lam Research /zigman2/quotes/208077897/composite LRCX -4.62% in chip equipment, and several of the large chip makers including NVIDIA /zigman2/quotes/200467500/composite NVDA +2.20% and Microchip Technology /zigman2/quotes/208326291/composite MCHP -0.27% .
Names that insiders favor
In the past several weeks I’ve suggested Microsoft /zigman2/quotes/207732364/composite MSFT -0.18% , Intel /zigman2/quotes/203649727/composite INTC +1.85% and Snowflake /zigman2/quotes/220991541/composite SNOW +15.85% in my stock letter a little below current prices, in part because of the attractive insider buying, and I still like these names.
Early in big economic rebounds, investors flock to growth, regardless of the quality of companies. But as we move into the mid-cycle, investors favor quality tech names, says Lowenstein, characterized by things like high margins, stable earnings growth and strong balance sheets.
“If you are screening for quality that is going to lead you to tech,” says Lowenstein.
This will favor Microsoft in cloud computing and software. Microsoft does not look cheap but the premium valuation is warranted because of its rapid growth, says JP Morgan analyst Mark Murphy.
Intel shares have been held back by manufacturing issues, but by now the stock looks relatively cheap compared to the market with its price earnings ratio of around 12, says Hendi Susanto a portfolio manager and technology analyst at Gabelli Funds. “Intel is fixing the issue,” says Susanto.
Intel will also benefit from strong chip demand, and chip shortages. “The industry is only 30%-40% through the current up-cycle,” says Sur, at JP Morgan.
Snowflake is all about data. That’s its mission. The company offers a product called Data Cloud that helps customers share, explore and unlock the value of data. A big part of the pitch here is that Snowflake helps customers break down data silos inside various pieces of hardware, apps, networks, and clouds. BlackRock and MasterCard agree. They are customers, among dozens of other Fortune 500 companies.
Security software companies
The recent Colonial Pipeline ransomware attack that caused widespread fuel shortages on the East Coast reminded us all of the ongoing need for better security software.
Gabelli’s Susanto favors firewall company Check Point Software Technologies /zigman2/quotes/200866016/composite CHKP +0.88% , citing cheap valuation, high operating margins and prevalence of recurring revenue. Check Point trades at around 22 times earnings compared to more than 60 for security software company Palo Alto Networks /zigman2/quotes/207599953/composite PANW +1.35% .
RBC Capital Markets analyst Matthew Hedberg has an overweight rating on Palo Alto, citing in part the Colonial Pipeline ransomware attack, as well as the “Sunburst” hack affecting businesses and governments last December, and the Microsoft Exchange Server malware attack in March.
Michael Brush is a columnist for MarketWatch. At the time of publication, he owned SNOW. Brush has suggested NVDA, MCHP, MSFT, INTC, SNOW, BLK, MA and PANW in his stock newsletter, Brush Up on Stocks. Follow him on Twitter @mbrushstocks .