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Weekly Market Analysis - Top Tech Takeaways – Companies Have to Spend Money to Make Money

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3 Things to Know

Tech’s “Magnificent 7” Beats EPS Consensus for Quarter 

After a summer of consolidation, the Nasdaq composite made a fresh record high last week.

Market-leading tech shares then fell back as large platform companies reported sharp increases in their investment spending on AI. All five of the “Magnificent 7” firms that reported EPS beat consensus expectations.

AI Bets and Direct Competition are Concerns

Whether today’s strong investment spending on AI will fully pay off in future profits has been an ongoing concern. Another risk is that the large firms compete more directly with each other than they have in the past.

“Magnificent 7” EPS Consensus Forecast for 2024: 28.2% 

High valuations have been a worry for some investors, but valuation has rarely been a performance catalyst for profitable tech firms with solid balance sheets.

Instead, shares have fallen and underperformed sharply when profits declined (notable drops were seen in 2000 and 2022). EPS gains for the Mag 7 were 43.3% in 2023. Consensus sees a 28.2% EPS gain in 2024 and 18.3% rise in 2025.

Summary

To say last week was a big one for Tech earnings is an understatement with five of the Magnificent 7 stocks, and many more, reporting their third quarter results. So far, we’ve heard from 348 of the S&P 500 companies and the aggregated results show firms beating consensus earnings and sales estimates collectively by 7.1% and 1.5%, respectively. Zeroing in on Technology, earnings and sales are topping the forecasts by 1.6% and 1.0%, and the sector is expected to generate faster earnings growth than the overall market in 2024-2026.

Dispersion between winners and losers is usually very wide in dynamic, innovative industries. We suspect that the intense focus on big tech may have driven too wide a performance divergence, however, creating potential opportunities for undiscovered smaller firms. There can be no promises made about individual firm prospects, but history suggest smaller, profitable innovators may be systematically undervalued compared to large firms (see chart).

Portfolio considerations

  • When one talks about “high equity valuations,” consider that the S&P 500 trades at 21.9 expected EPS but 19.3 excluding the Magnificent 7. Mag 7 firms have very different businesses, but collectively trade at 30x expected EPS with a 16% EPS growth pace over the past decade. Outside the US, the forward P/E is 13.3x. In terms of “rich valuations,” world equity markets are generally a story of a few “haves” and many “have nots.”
  • Keeping competitive threats, new technology and regulatory issues in mind, we still think it is prudent to own, but carefully manage, concentrated positions in US tech mega-caps.
S&P SMALL, MID & LARGE TECH FORWARD P/E

Source: Bloomberg, October 17, 2024. An investor cannot invest directly in an index. They are shown for illustrative purposes only and do not represent the performance of any specific investment. Index returns do not include any expenses, fees, or sales charges, which would lower performance. Past performance is no guarantee of future results. Real results may vary.

Tech’s “Magnificent 7” Beats EPS Consensus for Quarter 

With just hours left to the US Presidential election, the Nasdaq and Nasdaq 100 made new record highs following a summer consolidation. Shrugging off bipartisan regulatory threats, this was powered by record profits, not political hot air. The early week rise was followed by a round of profit taking last Thursday as investors refocused on the rapid spending increases from the largest tech platform companies to cover costs needed to develop AI services. Markets reversed once again last Friday as good corporate news and a hurricane-distorted employment report drove modest declines in bond yields.

As mentioned, we’ve heard from 348 of the S&P 500 companies and the aggregated results show firms beating consensus earnings and sales estimates collectively by 7.1% and 1.5%, respectively. Zeroing in on Technology, earnings and sales are topping the forecasts by 1.6% and 1.0%, and the sector is expected to generate faster earnings growth than the overall market in 2024-2026.

While share prices can fluctuate in the shorter-term, especially in the richer corners of the sector, the longer-term earnings outlook and a wave of innovation appear supportive. Along with Healthcare, the greater “Tech” sector is one of just two that have seen its earnings and market cap share of the total grow over time. We believe this reflects the ongoing digital transformation of the economy underway which we consider to be an unstoppable trend.

AI Bets and Direct Competition are Concerns

AI spending plans were in focus, as companies across virtually every industry seek to leverage their data to enhance sales and make productivity improvements in the years ahead. Three of the reporting Mag 7 lie at the center of the cloud computing infrastructure so critical to bring this about. Collectively, these companies, based on their reporting, have capital spending plans totaling $179 billion in 2024 with the prospects of continued growth but likely at a moderating rate in 2025. This should translate into slowing revenue growth of leading AI chip players as a result.

In offering new AI services, we’ve long been concerned that several of the so-called “Magnificent 7” – the largest firms with tech-related businesses – might compete more directly with each other than they do today. And of course there are others: OpenAI, the developer of ChatGPT, isn’t even a public company.

With that said, it’s encouraging to see an accelerating return on investment of AI user cases among mega tech and their clients, with operating margins on AI revenue continued to ramp, likely supporting further investment. Companies with efficient capex management and transformation to profits have been greatly rewarded by the markets, while those who showed weaknesses, even for temporary reasons, experienced negative price reactions after the reports.

“Magnificent 7” EPS Consensus Forecast for 2024: 28.2% 

While share prices can fluctuate in the shorter-term, especially in the richer corners of the sector, the longer-term earnings outlook and a wave of innovation appear supportive. Along with Healthcare, the greater “Tech” sector is one of just two that have seen its earnings and market cap share of the total grow over time. We believe this reflects the ongoing digital transformation of the economy underway which we consider to be an unstoppable trend.

Overall, EPS gains for the Mag 7 were 43.3% in 2023. Consensus sees a 28.2% EPS gain in 2024 and 18.3% rise in 2025.

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(c) Governments, supranational organisations, central banks or other national monetary authorities, and state organisations whose main activity is to invest in financial instruments (such as state pension funds).

GLOBAL CONSUMER BANK (ASIA PACIFIC AND EMEA):

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MARKET SPECIFIC DISCLOSURES

Market Specific Disclosures

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This communication is for general information only, is not intended as a recommendation or an offer or solicitation for the purchase or sale of any products or services and should not be relied upon as financial advice. The information herein
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