What next if the technology rally loses steam?

Shares in technology companies have led the charge this year. But, as a mixed set of second-quarter results emerges from the sector, how will this impact markets?

| 6 min read

This year’s market gains have mostly been concentrated in the technology majors that have a high weighting in global indices. They have recovered from the sharp falls seen last year on hopes that the interest-rate cycle is about to turn and ridden a frenzied wave of artificial intelligence (AI) speculation on hopes the emergent technology will provide an earnings boon for the sector in the next few years.

However, results so far from the sector have been mixed.

Alphabet bucked the trend, with its shares rising after its earnings report beat Wall Street expectations on almost all metrics. Google’s parent company reported revenue of $74.6bn, beating expectations for $72.75bn while reporting earnings per share of $1.44, more than the $1.32 expected by analysts. The company also reported another profit for its Google Cloud business, which first turned a profit in the first quarter of this year. was also a winner after it reported sales growth and profit that beat Wall Street's expectations as the company delivered goods faster and more cheaply to shoppers – and its recent cloud-computing headwinds began to subside. Its shares surged 9% on the news, extending its stock market value more than $120 billion in after-hours trading on Thursday. Facing an array of challenges, the company has aimed to keep its mantle as the world's biggest cloud provider and online retailer.

Apple shares dipped after it reported second-quarter revenue of $81.8bn, down from $83bn in the equivalent period of last year. This was the third consecutive fall in revenues, but the figure was ahead of Wall Street expectations. A new iPhone 15 series will be launched in a month. The good news was the number of paying subscribers for its digital services crossed 1 billion users worldwide, helping to lift profits from a year ago even as total revenue declined.

Microsoft shares fell as the company reported a slowdown in growth of parts of its business, despite the software giant beating Wall Street expectations with $56.2bn in revenue. The second-quarter figures showed slowing revenue growth for its cloud service Azure. Revenue from Azure only grew 26% in the fourth quarter of the year, compared with 27% in the previous quarter.

Netflix added more new subscribers than expected in the second quarter after the streaming giant clamped down on users sharing accounts. Netflix added 5.9 million new users, almost three times Wall Street’s expectations.

Tesla’s profit margin fell to its lowest level in four years in the second quarter, as the electric vehicle maker cut prices several times in major markets, including the US and China. Chief executive Elon Musk says it could continue to cut prices as the world economy is in "turbulent times", sending its shares lower.

The table above demonstrates the recent dominance of the US technology majors in the MSCI World Equity index. All nine largest companies are American, and seven of them are technology based. Google-owner Alphabet appears twice in the top ten with its split capital structure.

If you turn instead to the MSCI All World index and include emerging market companies in the list, the one change is the exit of United Health from the top ten to be replaced by Taiwan Semiconductor Manufacturing Co (TSMC), the only non-US company but still a crucial part of the digital revolution as it is the world’s largest contract chipmaker.

Whilst the technology leaders dominate the top ten there are still substantial companies and sectors that cannot do everything on the web.

Over the last century, there have been sweeping changes in the companies and sectors that dominate. In 2000, the top ten was a more balanced portfolio, with oils, banks, retailers, industrials, pharmaceuticals and telecoms all represented. The current sector and US dominance is unusual. In part it reflects a changed reality in how people lead their lives and spend their money, in part it reflects the market passion for the new and for growth, and in part the way some of life’s basics are in state or private ownership beyond the reach of quoted markets.

Today people spend large sums on acquiring laptops, pads, smartphones and desktops, and businesses are reinforcing their spend on technology. More and more business is transacted through or by computer. Fast progress has been made in greatly enhancing capacity and quality in fibre optic broadband systems.

The future with the extra stardust of AI points to more of the same, with further expansions in the volume of digital-based commerce, growing reliance of people and companies on digital methods and further technical and application breakthroughs. Banks want to replace branches with apps, retailers do more online, everything from training and learning to entertainment, house purchase and job search is increasingly shifting to an online answer.

Whilst the technology leaders dominate the top ten there are still substantial companies and sectors that cannot do everything on the web. There needs to be businesses growing and supplying food, offering gas, diesel and petrol for heating and transport, making vehicles, plant and equipment, producing products for home and office. The physical world has not been abolished, though the stock markets currently sideline it more.

History warns us that no sector or company dominance lasts forever, and change is often swift. So far this year the combination of a big sell-off last year in tech stocks after a great run combined with glimpsing new large possibilities from AI has returned sector shares to top form.

Maybe it is time to be looking at some of the other good stories out there that will lead to some other businesses and sectors doing well. The market has seen the trend to rearmament in an uncertain world and boosted the defence companies. Some retailers are now in their stride showing how they can use bricks and clicks to make good profits. When interest rates have peaked, property, cyclical industrials and other rate-sensitive areas should do better.

As always, the prudent investor does not put all the bets on the current winning sectors and themes but has some spread for when the mood changes.

Nothing on this website should be construed as personal advice based on your circumstances. No news or research item is a personal recommendation to deal.

What next if the technology rally loses steam?

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