Despite technology companies making our lives easier on many occasions, big tech has brought its own big problems since the start of the internet. As a student of finance, one of the first big crises I learnt about was the DOTCOM bubble. An overvaluation of tech stocks due to the internet being new and a real cause of future prosperity.
Now in 2022 and 2023, we have seen some of the big tech companies lose a lot of their value. Share prices are dropping and layoffs are happening. This appears to have been kick-started when Elon Musk bought Twitter, but earlier some distress in the industry is there for all to see.
Let us start with why big tech helped the stock market growth in the run-up to the recent decline.
Tech stocks have made significant gains in the stock market in recent years for a variety of reasons:
- Strong Earnings Growth: Tech companies have reported strong earnings growth in recent years. This has made them popular for investors seeking high returns, leading to increased demand for tech stocks. The idea of a get-rich-quick scheme has always been attractive particularly to retail investors.
- Innovation and disruption: A great story about a new innovation is something that will lead investors to make the decision to buy a stock. Tech companies are known for their ability to innovate and disrupt traditional industries, creating new market opportunities and driving growth. This has led to increased investment in the sector as investors anticipate future growth and potential returns. A stock which has higher prospects is more likely to be one that investors want to purchase, further driving up the price.
- Low-interest rates (across the developed world): We have seen record low-interest rates. the low-interest rate in recent years has encouraged investors to seek higher returns in the stock market, and tech stocks have been seen as a way to achieve this. If you think about it when interest rates are so low, why would you want to keep your money in the bank? Investors will move their money into things like the stock market when interest rates are low.
- E-commerce: buying and selling online has also helped these big tech companies, all of them have a huge reliance on the interest for making money.
- Demographic trend: The demographic trend of the world population getting younger and more tech-savvy has led to an increase in the demand for technology products and services, which has helped drive the growth of tech stocks.
Overall, tech stocks have made significant jumps in the stock market due to strong earnings growth, innovation and disruption, a low-interest rate environment, e-commerce and digital trend and demographic trend.
If you wanted to invest in Big Tech, where is the place to go?
The stock market with the most technology stocks is the NASDAQ, which is a stock exchange (or market) based in the USA. It is known for having a large number of technology-focused shares listed companies. Some of the most well-known technology companies listed on the NASDAQ include Apple, Microsoft, Amazon, Alphabet and META. The NASDAQ’s reputation as a hub for technology stocks has led to it sometimes being referred to as the “tech-heavy” exchange. However, it’s important to note that other stock markets around the world, such as the Hong Kong Stock Exchange, have a large number of big tech companies too!
Having said all this, tech stocks have fallen in value in recent months, and seen large layoffs of staff too! There are a number of reasons why tech stocks are considered to be more volatile in the current market for a few reasons:
- High Valuation: If you think about market cap, tech stocks make up some of the largest companies in the entire stock market. Technology stocks, particularly those in the tech sector, tend to have high valuation multiples compared to traditional industries. This means that the market is pricing in high growth expectations for these companies, which can be difficult to sustain over time. When these expectations are not met, the stock can experience significant declines.
- Earnings Uncertainty: The technology sector is characterized by rapid changes and innovation, which can make it difficult for investors to predict future earnings. This uncertainty can lead to increased volatility in technology stock prices. Think about companies like Nokia or Blackberry, we all used to own these phones, but now the companies are in many different financial positions.
- Global events: The technology sector is deeply connected to the global economy and events such as pandemics and trade tensions can rapidly shift the demand for tech products, which can lead to fluctuations in stock prices. This is particular to the tech sector, but global events such as the pandemic can change markets and shift how we think about the macroeconomy including the stock market.
- Interest rate: The technology sector is sensitive to interest rate changes, as it relies heavily on debt to finance its investments and expansion. Rising interest rates can increase the cost of debt and make it more difficult for tech companies to access capital, which can lead to a decline in stock prices. Just for the very reasons the tech stocks made money in the first place, from people demanding a higher return and being attracted to these stocks, these have also been hit by rises in interest rates.
- Short-term oriented investors: investors can be short-termism for a number of reasons. When investors see layoffs in the news, they might think twice about making an investment in a particular company.
Overall, technology stocks are often considered to be more volatile due to their high valuation, earnings uncertainty, global events, interest rate sensitivity, and short-term oriented investors.
Our previous post on France overtaking the UK on the stock market provides essential guidance for investors of all levels. Don’t miss out – simply follow the link to access it now.