The technology sector had a miserable year in 2022. However, it remains ingrained in significant structural trends. Is it a good moment to assess whether we should continue to invest in technology in the long run?
Over $50bn was wiped off of Netflix’s share price in 2022 as it announced dropping subscriber numbers for the first time. Its subscribers proved much more sensitive to price rises than its management had assumed amid a progressively competitive streaming market.
Netflix is not the only bellwether technology name experiencing difficulties. Amazon’s Q3 2022 sales growth slowed to 9.66%, leaving investors fretting over whether climbing revenues would justify the vast sums invested in distribution and infrastructure.
It is tempting to see this as a metaphor for the broader technology market: high appraisals based on exaggerated assumptions proved vulnerable to a small amount of bad news. There is an element of truth in this. There are particular segments of the modern technology industry where growth assumptions have accumulated over the pandemic, just for the ‘brand-new normal’ to look like the ‘old normal’. Individuals have gone back to high street stores and have stopped streaming so much content.
The technology sector is also facing a valuation problem: as interest rates and bond yields increase, the long term cashflows offered by high-growth innovation firms become much less valuable. Many investors value these high growth companies based on the present value of their future earnings instead of valuing them based on their current profits or dividend pay-outs. With inflation around the world high and rising, the US Federal Reserve (the body in the US that sets interest rates, similar to the Bank of England) has indicated that they will raise interest rates faster than everyone was previously expecting. When interest rates rise, eating into that future value, it becomes less appealing to make high-price bets on companies expected to have exponential growth in profits compared to their profitability now. As the rising cost of living continues to outpace anticipations, this is a significant drag on share prices across the industry.
This all sounds quite dismal for the technology sector, yet it needs to be set against some strong tailwinds for various other segments within technology. The value of cyber security, for example, has been put into quick alleviation as Russia continues to manipulate the vulnerabilities of nations through their computer systems. The tendency for businesses to digitise is a long-term trend, still in its early stage. Climate change is dependent on modern technology companies to promote it.
The modern technology industry requires a little extra cautious navigation than in recent years. Going forward, it will not for investors to merely purchase a handful of big names and expect the best. They will need to look very carefully at those companies with sustainable growth, instead of earnings that have been flattered by the pandemic.
Nonetheless, some high growth companies are offered at much more enticing prices than several months ago. There may still be additional falls, but possibilities arise for taking on investors ready to look through the present noise.
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