06 April 2020
Investors have favoured the Technology sector in recent years as it provides exposure to secular growth trends such as digitisation, cloud computing and the development of 5G and artificial intelligence. Nevertheless, despite its impressive growth rates and quality characteristics, the sector did look expensive at the end of last year. Following significant share price falls in Q1, investors now have an opportunity to access Technology’s long-term trends and attractive firms with healthy balance sheets at lower levels.
How will Technology companies fare in the COVID-19 crisis?
While the current crisis will affect all tech companies, we do not believe the impact will be as severe for the Technology sector compared with its peers.
Technology is not a defensive sector, as it depends significantly on corporate capital expenditure. Normally such capex would be reined in during difficult economic times, but with the working-at-home dynamic, spending priorities are likely to change and there could be positive benefits to some companies.
To get a better idea on how COVID-19 might affect Technology, we can look at the potential impact on three major industries.
Software applications and services could see a stay-at-home benefit
Share prices in this industry group have held up relatively well year to date (total returns for MSCI World Software were -14% compared with MSCI World Index at -24%). Several software providers have produced positive returns of over 30% on an expected uplift in demand for their products that facilitate web conferences, remote desktop access and cyber security, amongst other services.
Software providers are well placed over the long term as many industries are still early in their digital transformations and require significant software investment. However, most software companies will suffer some slowdown in sales amid a global economic slowdown. Where there may be relief is from the millions of employees worldwide suddenly being forced to work from home producing a surge in demand for communication, collaboration and security software solutions. The longer the COVID-19 impact, the more likely that corporations will accelerate their move to adopt new applications and cloud-based services.
Hardware hit on supply and demand side
Hardware stocks have been weaker than the rest of the sector this year (MSCI World Hardware -21%) but they have still outperformed the broader market. Hardware products encompass PCs, smartphones, storage and data networking equipment, with the largest customer bases being consumer product and corporate buyers.
PC and smartphone manufacturers were hit early on in this pandemic by a lack of supply of electronic components from China, as Wuhan went into lockdown; disruption may continue for months. However, there is hope that pent-up demand lost in Q1 and Q2 could see a revival later in the year. There is less optimism for other big hardware suppliers, which face a long-term fall in sales of servers and storage if the move from on-premise to public clouds is accelerated.
Semiconductors traditionally lead the broader market
Semiconductor share prices fell hard initially but have bounced back over the last two weeks (MSCI World Semiconductors -20% YTD). Chip manufacturers are cyclically sensitive, typically leading an economic upturn or downturn, and therefore can show more volatile performance.
As a whole, semiconductor companies are better positioned to weather a downturn from the coronavirus, as smartphones and cloud improvements may help offset weakness in corporate IT spending. Unlike hardware, chipmakers have the public cloud as a third key end-market. Consensus forecasts see pronounced cuts in chip sales in H1 as auto manufacturers and industrial users cut orders, with an H2 revival dependent on the breadth and severity of the crisis. In the long term, semiconductors are essential to scale the delivery of IT infrastructure plans.