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Abu Dhabi, UAEFriday 17 August 2018

Is now the time to abandon big tech stocks?

In the wake of the recent Facebook scandal, technology companies are falling out of favour fast

Facebook CEO Mark Zuckerberg testifies before a joint Senate Judiciary and Commerce Committees hearing last week. The scandal involving Cambridge Analytica saw $50 billion wiped off Facebook's market value. Aaron P. Bernstein / Reuters
Facebook CEO Mark Zuckerberg testifies before a joint Senate Judiciary and Commerce Committees hearing last week. The scandal involving Cambridge Analytica saw $50 billion wiped off Facebook's market value. Aaron P. Bernstein / Reuters

Facebook, Amazon, Netflix, Google, Tesla and other top US technology companies may have conquered the world - and even had their eyes on space - but now they are crashing back to earth.

Last year’s high-flying investment theme is finally feeling strong gravitational pull amid data scandals, privacy concerns, political attacks and monopoly fears.

The bigger they are, the harder they fall. So is now the time to dump the technology behemoths from your portfolio?

It is the joke no stock market analyst can resist right now: Fangs are not what they used to be.

They are referring to Facebook, Amazon, Netflix and Google, collectively known as the Fang stocks (or Faang if you include Apple). It was a fitting description, because these companies have shown their teeth in recent years.

However, now it is a case of the biter bit, as they find themselves under attack on a host of different fronts.

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Concerns about the ethical standards of social media companies have been simmering for years, with terrorist organisations using platforms such as Facebook, Twitter and YouTube to spread propaganda and plan attacks.

In March, these concerns exploded with the Cambridge Analytica scandal, after it emerged the company had collected the personal data of up to 87 million Facebook users. This led to $50 billion being wiped off Facebook's market value although it has recovered slightly, notably after Mark Zuckerberg said in his testimony to Congress that it has had little “meaningful” impact on how many people are using the social network.

There are other threats, including a draft proposal by the European Commission to impose a 3 per cent tax on the turnover of digital giants such as Google and Facebook, and President Donald Trump’s one-man assault on retail behemoth Amazon, repeatedly tweeting that it pays too little tax, destroys jobs, and has been scamming the US Postal Service.

Every time Trump tweets, Amazon's share price falls, costing founder Jeff Bezos, the world's richest man, $16 billion in lost stock value to date.

However, many investors also see recent dips as a buying opportunity in what has been a hugely rewarding sector.

If you invested $1,000 in Facebook when it floated in 2012, you would now have $4,718, according to figures from Waterstone Group.

If you invested $1,000 in Netflix in May 2002, it would be worth $256,331 today. Gabby Jones/Bloomberg
If you invested $1,000 in Netflix in May 2002, it would be worth $256,331 today. Gabby Jones/Bloomberg

That is a pittance compared to what Netflix has done to $1,000 since 2002, turning it into $256,331, while the same sum invested in Chinese internet behemoth Tencent Holdings in 2004 would be worth $618,298.

Since floating back in 1980, Apple has turned $1,000 into $437,589, while this final one could you really kicking yourself. If you had invested $1,000 in Amazon in 1997 your money would now be worth an incredible $972,563.

The party continued last year, when Facebook, Apple, Amazon, Google parent Alphabet and Microsoft contributed around 40 per cent of growth on the US stock market. However, 2018 has brought the hangover.

Rebecca O’Keeffe, head of investment at global stocks platform Interactive Investor, says each major tech company faces its own problems. “With Facebook, it is data security. With Intel, reports that Apple will make its own chips. Tesla is repeatedly missing key targets, compounding fears about its excessive debt, while Amazon has President Trump on its case.”

Even if you do not hold these stocks directly, your portfolio could still be in the firing line, she warns: “The big tech companies are all held by the most popular global investment funds so you may have more exposure than you think.”

Simon Edelsten, manager of the Mid Wynd International Investment Trust from asset managers Artemis, says when an investment phenomenon gains its own catchy acronym it is probably time to be worried – look what happened to the BRICs. “The Fang stocks have had an outstanding few years, even accounting for recent falls. Facebook’s share price has risen 100 per cent in just three years, with Google parent Alphabet close on its heels, while Amazon has risen 300 per cent and Netflix nearer 400 per cent.”

He says the market is now pricing in slower growth as the Cambridge Analytica scandal reduces the amount of data Facebook has to sell, hitting advertising rates.

Jeff Bezos, founder and chief executive officer of Amazon. Donald Trump has repeatedly tweeting that the company pays too little tax, destroys jobs, and has been scamming the US Postal Service. Abhishek N. Chinnappa / Reuters
Jeff Bezos, founder and chief executive officer of Amazon. Donald Trump has repeatedly tweeting that the company pays too little tax, destroys jobs, and has been scamming the US Postal Service. Abhishek N. Chinnappa / Reuters

He has sold his fund’s stake in Facebook and has offloaded Amazon despite its impressive 20 per cent a year growth rates, which he hails as “outstanding for a company of its size”.

Amazon has conquered the US and UK but its latest target Australia could prove tricky, given vaster distances and subsequently higher delivery costs, he says. "Amazon has a huge capital expenditure programme and will only make profits once it has taken over the world, making it hard to value. The margin of comfort has disappeared.”

Mr Edelsten is also sceptical about Netflix, which may have disrupted the television and cinema industries and posted exceptional subscriber growth, but is yet to make a profit. “Netflix now look hard to value for those who believe that in the long run shares are only supported by their cash profits."

He is holding onto his stake in Google parent Alphabet. “It represents good value for money given the cash it generates and is less in the line of regulatory fire than Facebook. It has made strides cleaning up YouTube content and is engaging seriously with regulators on privacy concerns.”

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He also retains Chinese online media giant Tencent. “Latest figures show its income doubled last year and we suspect it has more room to keep growing in Asia than other global online businesses.”

However, he is downbeat on the tech sector overall. “In our view, the Fang story no longer holds as a compelling total package,” he adds.

James Clunie, head of strategy at investment fund Jupiter Absolute Return, says a rush into “glamour” stocks is quite common near the end of a bull market, typically signifying late-cycle exuberance. “The delightfully named Fangs are the poster stocks of the current cycle and potentially in a bubble.”

We have been here before, for example, during the technology bubble in 1999, when Microsoft, Cisco, Oracle and Amazon were similarly loved, Mr Clunie says. “In the early 1970s, a group of blue-chip stocks labelled ‘the nifty fifty’ were seemingly invincible, until the 1973-1974 stock market crash.”

The popularity of exchange traded funds (ETFs) has intensified the risks as money pours into passive funds tracking major US indices, Mr Clunie adds. “In 2017 alone, an estimated $50bn was invested in S&P500 Index ETFs. The launch of dedicated technology and media ETFs with roughly a third of their assets invested in Faangs is even more worrying.”

Peter Garnry, head of equity strategy at Saxo Bank, says technology stock sentiment is waning amid regulatory threats, growing uncertainty over the global economy, and the prospect of a trade war between the US and China.

The key risk is a potential global recession, which history suggests could knock 30 per cent of equities, with technology unlikely to be immune. “The probability of a recession in 2019 has gone up and equity markets may be pricing that in now.”

Mr Garnry says Saxo is taking a more defensive approach to asset allocation, with just 23 per cent exposure to equities. “We expect volatility and financial turmoil to increase throughout the year as this economic cycle comes to an end.”

Alistair Jex, head of discretionary management at Coutts, is more optimistic, noting that following each recent sell-off investors have been lured back by the tech sector’s resilience and diversity.

However, they must be aware of the regulatory threat, noting that taxi ride service Uber was forced to change how it operates when UK lawmakers deemed its drivers to be employees rather than self-employed. “Uber has agreed to renegotiate contracts but the resolution is likely to complicate what started as a simple business model,” says Mr Jex.

However, he adds that technology remains a favoured theme thanks to its impressive growth, strong earnings and their vital role in shaping the future. “It still pushes all the right buttons for us.”

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Tom Anderson, senior investment manager at Killik, who advises clients in Dubai, says investors should not rush to abandon big tech, as Amazon, Google and Facebook are woven into our daily lives, for better or worse. “However, the party is probably over for now, and recent troubles are a reminder of the need for diversification.”

Most investors will still want some exposure to technology, especially those looking for growth. “They should look beyond ‘big tech’ and have exposure to other technology themes, such as automation, artificial intelligence and robotics, but only as part of a wider set of diversified portfolio holdings.”

Russ Mould, investment director at online trading platform AJ Bell, says while attention focuses on the FANGs and Tesla, investors should keep an eye on the Philadelphia Semiconductor Index, or SOX, which contains 32 silicon chip designers and manufactures. “These integrated circuits are everywhere, from smartphones to computers to cars to robots, and offer a great insight into the global economy and investor appetite for risk.”

Upcoming results from silicon chip makers Intel, Samsung Electronics and Taiwan Semiconductor Manufacturing Company (TSMC), could point to where the global stock market is going, Mr Mould says. “Samsung has just got the first-quarter reporting season off to a good start, estimating that profit for the three months to March will rise 58 per cent year-on-year.”

Investors will now be looking to Intel, TSMC and other leading SOX members such as Broadcom, Texas Instruments and Qualcomm to supply reassurance, Mr Mould adds.

Gordon Robertson, director at Investme Financial Services in Dubai, says investors must avoid falling victim to “recency bias”, the assumption that current trends will continue. “Is the tech party coming to an end? History suggests it has to happen at some point. However, Charles Dow, who founded the Dow Jones and Wall Street Journalist, said always assume that a trend will continue until evidence suggests otherwise.”

The evidence right now is mixed but the growth at all costs model may to be coming to an end, as the industry matures.

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