Big Picture Favors Big Tech

10/24/2011


I'm not big on grand stock-market themes. I look for opportunities one stock at a time, generally letting sector bets sort themselves out. But when bottom-up analysis leads to big-picture conclusions, I take notice.

One theme clearly evident in the numbers I look at today is the appeal of large-company technology stocks. Consider the following:

• Tech stocks appear cheap. Using price/earnings ratios on expected year-ahead earnings, the tech sector is more attractive than it has been in at least 15 years, excluding the 2008-2009 bear market. The same is true based on trailing price/cash flow and enterprise value/EBITDA ratios. Based on average Value score in our Quadrix rating system, the S&P 500 tech sector is cheaper than it has been in at least 16 years.

• So far, third-quarter results from tech giants have been solid. Google ($591; GOOG) handily beat consensus sales and profit expectations. Intel ($24; INTC) shares rallied to 18-month highs after the semiconductor giant exceeded consensus sales and profit forecasts.

IBM ($179; IBM) shares dipped on in-line results. But the company raised full-year guidance slightly, and solid growth in software and services point to continued steady growth next year. Apple ($399; AAPL) missed profit expectations for the first time since 2004. But the company posted a 54% profit gain, and record early sales of the new iPhone model released this month suggest robust profit growth is likely in the year ahead.

• In Quadrix, the technology sector shines. Based on average scores for stocks in the broad S&P 1500 Index, tech ranks fourth among the 10 sectors based on Value, third on Momentum, second on Quality, and first on Financial Strength. As a result, tech ranks first on Overall score, and no sector has such a high proportion of stocks with Overall scores above 80 or above 90. Technology looks even better for the big stocks in the S&P 500, with 10 of the index's top 25 Overall scorers hailing from the tech sector.

• High Quadrix scorers tend to outperform in the tech sector, with leaders based on Overall, Value, Quality, and Financial Strength scores outperforming the average tech stock meaningfully since 1992. Among the six tech stocks on our Buy List, all six earn Quality scores of at least 88, Financial Strength scores of at least 75, and Overall scores of at least 87. Apple, Intel, Microsoft ($27; MSFT), and Oracle ($32; ORCL) earn Overall scores of at least 97. Historically, stocks from any sector with Overall scores of 97 or higher have been a good bet for year-ahead returns.


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