Tech stocks are due for another fall

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The fundamentals of technology are deteriorating, not better. An example is the weakening demand for consumer electronics.

Art by Barron’s (Dreamtime 4)

For years, tech investors seemed to outgrow every problem, like the Road Runner in the old Looney Tunes cartoon. But this summer, technology buyers have changed roles. Suddenly, they look more like Wile E. Coyote, the Road Runner’s restless pursuer. Wile was still making progress running off a cliff in the air, but after a certain point he looked down and realized his bad situation. Gravity would take hold and Wile would suffer a painful fall.

From a low in June, tech stocks have soared, with the Nasdaq Composite Index rising 20%. But the classic Looney Tunes cartoon offers investors a lesson. Reality ultimately matters.

The sustainability of any rally led by triple-digit percentage gains from money-losing companies like

Coinbase Global

l (symbol: COIN) and

Fubo TV

(FUBO) is suspicious. More importantly, the latest developments show that business trends in the technology sector may be getting worse, not better, which portends a tough ride for shareholders.

The weakness of consumer-oriented end markets, including PCs, electronics, smartphones and digital internet advertising, has been well documented. We’ve seen big warnings from major vendors, and prices for computers, processors, memory chips, and graphics cards continue to drop every day. There are no signs of a quick turnaround in these markets.

But the biggest problem now is that the downturn seems to be spreading to the one place that has held up relatively well: corporate tech spending. It is important. If business tech demand slumps — an annual market worth more than $4 trillion, according to Gartner — it will drive another drop in tech industry earnings forecasts, likely leading to a slowdown in several quarters.

This earnings season has been full of hints of weakness, especially as some investors have tried to ignore them. The first indication came at the end of July from

Intel
it is

(INTC) disastrous earnings, which showed much weaker demand from its enterprise data center customers. days later,

Advanced micro-systems

(AMD) posted strong results overall, but admitted it had started to see “mixed” trends from its enterprise customers, with some deals taking longer to close.

Then, last week, there was fresh evidence that the attitude of enterprise technology buyers seems to be changing. Like AMD, chipmaker

Analog devices

(ADI) reported strong earnings, but said uncertainty about the economy had started to hit businesses in recent weeks, with order cancellations rising slightly. So far, Analog Devices’ business has been more resilient than other semiconductor companies due to its exposure to the automotive and industrial segments, where demand has remained strong. But the company’s newly cautious comment raises fears that the weakness could soon spill over elsewhere.

Other cracks have begun to appear in some of the fastest growing areas, according to surveys Wall Street has conducted of buyers of enterprise software. On Monday, UBS analyst Karl Keirstead said his latest conversations showed about half of his contacts saw “some likely pressure” on their data analytics software budgets, adding that it was negative feedback that they haven’t received in the past. A report from Morgan Stanley said the company was hearing incremental weakness when talking to buyers of cloud marketing software.

Admittedly, it wasn’t all bad news last week. Earnings of

Cisco Systems

(CSCO) turned out to be an outlier. Shares of Cisco jumped 6% on Thursday after the maker of networking and security products posted earnings that beat expectations.

In an interview with Barrons, CFO Scott Herren said Cisco’s business may be more isolated and less correlated to other industries than it has been in the past, adding that companies have realized they can’t afford to delay upgrading their network infrastructure in the modern economy. Cisco might turn out to be the exception.

The market has looked past the broader deterioration over the past few weeks. Why? Because we may well be in the midst of a bear market bounce in which the fundamentals have been temporarily pushed aside.

During a summer presentation to its clients, Coatue, a large technology hedge fund that was able to avoid massive losses suffered by some of its main peers, warned that falling markets are often punctuated by several strong rallies. In a slide, the company noted that the Nasdaq’s 70% decline from early 2000 to late 2001 had three rallies of around 30% or more.

My view is that the turnaround hasn’t happened yet, given recent data on business spending. It takes time for IT budgets to adapt to new business realities. We’ve heard a lot about hiring slowdowns. In the coming quarters, it is likely that we will also see similar spending slowdowns.

Meanwhile, Coatue told his customers to be patient in the perilous environment. The firm suggests buying long-term winners, while being disciplined on entry prices.

My list of winners starts with

Microsoft

(MSFT), AMD,

Alphabet

(Google T

Semiconductor manufacturing in Taiwan

(TSM). Stocks are far from their highs despite continued robust growth and strong market positions. They are the Road Runners in today’s tech landscape.

Write to Tae Kim at [email protected]

About Anne Wurtsbach

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