Next year could finally see the US tech rally run out of steam, according to numerous fund managers and other investment professionals.
However, they said that investors could still make gains from the region in 2022 if they avoided many of the momentum stocks that have led the market over the past few years.
Data from FE Analytics shows the S&P 500 has made a positive return in sterling terms in every one of the past 13 calendar years (including 2021), making double-digit gains in 10 of those. This year it is up 28%.
Calendar year performance of index since 2008
Source: FE Analytics
Kelly Prior, a manager in BMO’s multi-manager team, said that what was particularly interesting this year was the bifurcation in the market, with a small group of tech stocks driving the index.
“Around 70% of the return of the S&P 500 in 2021 has come from only four companies – Microsoft, Apple, Nvidia and Alphabet,” she said. “Apple alone is on the brink of a $3trn market capitalisation; this company already has a greater market capitalisation than the FTSE 100.
“Yet within the same sector there have been many companies that have been left behind.”
This view was echoed by Jacob de Tusch-Lec, co-manager of the Artemis Global Income fund. He said that while the focus was once again on a handful of names, outside of this group there were signs that a mini-bubble was starting to burst.
“The market is expecting tightening and liquidity withdrawal (higher rates, higher input prices, higher working capital requirements and higher wage costs),” he said. “The result has been extreme concentration in market leadership.
“Aggregate market levels fail to tell the full story: the success of a small cohort of mega caps has papered over the cracks that have begun to appear in some of the frothier, more speculative corners of the equity market.”
Richard de Lisle, whose VT De Lisle America fund is the best-performing active product in the IA North America sector this year, agreed with de Tusch-Lec, saying: “The concept stocks are already imploding like it’s 2000 all over again. High-multiple tech is holding for now, but it is getting down to the last few.”
Performance of fund vs sector and index in 2021
Source: FE Analytics
Yet despite these concerns, most asset managers retained a neutral view on the US for the year ahead.
Liontrust’s multi-asset team accepted that valuations looked elevated for the US index overall, with share prices discounting better-than-expected earnings, while a shift back towards ‘real world’ rather than virtual interaction would put pressure on technology revenues next year.
However, it said that the picture was better outside of the mega-cap growth names, adding: “The US is a formidable market with a strong entrepreneurial culture and a roster of world-class companies.”
Meanwhile, James Beaumont and Nuno Teixeira of Natixis pointed out the economy was in good health, with US households’ net worth up by 22% since the start of the pandemic. This should continue to act as a strong tailwind for growth.
Meanwhile, they claimed the political situation should remain supportive for markets.
“The risk of Democrats losing control of the House, Senate or both in next November’s US midterm elections has increased, which should translate into President Biden avoiding unpopular policy measures.
“In addition, the version of the Build Back Better plan that was recently passed in the House indicates that most of the corporate tax provisions in a final Senate-passed bill would take effect in 2023 and not 2022 as previously assumed.”
So where are investors seeing opportunities in this market? Liontrust said that despite its overall caution on the region, it saw smaller companies as “ripe for a rebound” considering their significant underperformance versus large caps.
“As the recovery broadens, investors will be looking elsewhere and consumers flush with cash should benefit domestically orientated companies, especially small caps,” the team said.
“As the economy reopens (we are bullish about the cycle), small caps should outperform large. A risk to this would come from tax hikes, which tend to hit small- and mid-cap companies more than their larger counterparts.”
De Lisle said that with CPI at 6.8% and the Fed Funds rate at 0.25%, this made asset plays, and financials in particular, “the place to be in 2022”.
“With houses in attractive cities running up to 30% higher than last year, and nationally at 20%, we would all be remiss not to max out on mortgages at give-away rates,” he added.
“Thus banks with strong mortgage lending, housebuilders, and low [price-to-earnings ratios] P/E and asset-backed [companies] are safe. High labour-component and price takers are not.”
However, Ben Yearsley, investment consultant at Fairview Investing, pointed out the financial services sector made up a relatively small part of the US market, meaning it had more to lose from a cycle of interest rate-rises than somewhere like the UK.
Julie Dickson, investment director at Capital Group, said that despite lofty headline figures, the spread in valuations between different sectors remained wide. She added that there were even opportunities to be found within the super-hyped tech sector.
“For example, certain companies exposed to cloud computing, social media platforms and the digital world have shown a great deal of resilience in their current and prospective earnings growth, even during market declines and in more subdued broad market and economic outlooks,” she noted.
“Against a backdrop of rising inflation, the prospect of increasing interest rates, and potential volatility, understanding how these companies can continue to deliver strong fundamentals over the medium to long term is increasingly important.”
Dickson said this environment had also put the spotlight on companies that have maintained or raised their dividends in recent years, an area of the US that had been overlooked for some time.
Yearsley finished by saying that while tech and the internet giants have been the clear winners of the past five to 10 years, there are now different trends at play which meant it was unlikely the US would be the stock market of choice for the next decade.
Performance of indices over 10yrs
Source: FE Analytics
He added that with numerous growth stocks far from turning a profit, even small interest rate rises had the ability to take “the froth off the top” of the US market.
“Having said that, it also feels that we are still in a bull market and the US is likely to continue rising,” he added.
“Valuations are high in many areas, but this trend isn’t going away. The same comment could have been written here for the past four or five years: the US is expensive. In the short term, there probably isn’t anything to knock the market significantly.”