Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 411

Four leading tech stocks now look cheap

The recent drop in technology stocks has created some rare buying opportunities for investors looking to add or expand exposure to the technology sector. However, given the level of economic uncertainty and jitters over higher inflation and rising interest rates, investors should be careful in their stock selection. Luckily, the relative underperformance so far this year of the tech sector compared to the benchmark may make things easier.

The Morningstar U.S. Technology index (just under 6%, expressed in U.S. dollars) is currently underperforming the S&P 500 (over 11%) for the year to date, as of May 27, 2021. However, the tech sector has handily topped the broader index over the one-, three- and five-year periods.

These tech heavyweights in Morningstar’s coverage universe are trading at double-digit discounts to their fair values, indicating potential for upside. The sizeable margin of safety and strong fundamentals make these names compelling prospects for economic reopening and advertising growth play.

Microsoft Corp (MSFT)

  • Price: US$250.16
  • Forward P/E: 30.21
  • Fair Value: US$278
  • Moat: Wide
  • Star rating: ****

Data as of May 27, 2021

Tech major Microsoft (MSFT) is the second most valuable company by market cap, behind Apple. Best known for its Windows operating system and Office productivity suite, the company develops and licenses consumer and enterprise software. The firm’s business comprises three segments: productivity and business processes, intelligence cloud, and personal computing.

Under CEO Satya Nadella, Microsoft has reinvented itself into a cloud leader. Additionally, the company has accelerated the transition from a traditional perpetual license model to a subscription model, while divesting from low-growth low-margin business. “These factors have combined to drive a more focused company that offers impressive revenue growth with high and expanding margins,” says a Morningstar equity report.

The tech heavyweight’s cloud service platform Azure has grown to become the crown jewel of the company. “Azure is an excellent launching point for secular trends in AI, business intelligence and Internet of Things, as it continues to launch new services centred around these broad themes,” asserts Morningstar equity analyst, Preston Caldwell, who puts the stock’s fair value at US$278.

Microsoft is also moving some of its traditional on-premises products to cloud, including such critical applications as LinkedIn, Office 365, and Dynamics 365.

Alphabet Inc (GOOG)

  • Price: US$2,428
  • Forward P/E: 31.75
  • Fair Value: US$2,925
  • Moat: Wide
  • Star rating: ****

Data as of May 27, 2021

Silicon Valley giant Alphabet (GOOG) is best known for its search engine Google, which generates 99% of its revenue. The company’s other revenue streams include sales of apps (Google Play), video streaming business (YouTube) and hardware (Chromebooks and the Pixel smartphone).

Wide-moat Alphabet recently saw a 2% decline triggered by fears of rising rates and a slowdown in digital ad spending growth. These fears are disputable and while rising rates should pressure multiples, Alphabet has “already been trading at what we view as unwarranted discount compared with peers,” says a Morningstar equity report.

As for the ad revenue declaration in the second half of 2021, the report assures it would be a short-term effect resulting from the pandemic. “We expect digital ad revenue growth will remain at strong double-digit rates for both firms [Alphabet and Facebook] for several years,” says Morningstar equity analyst, Ali Mogharabi, who pegs the stock’s fair value at US$2,925.

Alphabet boasts sustainable competitive advantages built on the company’s significant intangible assets including technological expertise in search algorithms and machine learning, as well as access to and accumulation of data that is deemed valuable to advertisers.

Facebook Inc (FB)

  • Price: US$331.03
  • Forward P/E: 27.40
  • Fair Value: US$390
  • Moat: Wide
  • Star rating: ****

Data as of May 27, 2021

World’s largest social network with 2.5 billion monthly active users, Facebook (FB) provides a platform for users to exchange messages and share news events, photos, and videos. Advertising revenue represents more than 90% of the firm’s total revenue, with 50% coming from the U.S. and Canada and 25% from Europe.

Facebook’s sticky ecosystem comprises the Facebook app, Instagram, Messenger, WhatsApp, and many features surrounding these products, which helps the company amass valuable user data. “The growth in users and user engagement, along with the valuable data that they generate, makes Facebook attractive to advertisers in the short and long term,” says a Morningstar equity report.

While Facebook has been facing fierce political pressure over its handling of data, “advertisers will continue to allocate a higher percentage of their ad budgets” toward Facebook due to the platform’s colossal user base, says Mogharabi, who estimates the stock’s fair value to be US$390. He remains confident that the wide-moat firm will benefit significantly from the economic recovery as ad spending perks up.

Tencent Holdings (TCEHY)

  • Price: US$78.35
  • Forward P/E: 33.90
  • Fair Value: US$103
  • Moat: Wide
  • Star rating: ****

Data as of May 27, 2021

Chinese internet heavyweight Tencent (TCEHY) offers a wide variety of internet services and contents. The firm’s main services include communication and social networking, online PC and mobile games, content (news, videos, music), cloud services, and financial technology.

Tencent’s social media app WeChat (locally known as Weixin) has 1.2 billion aggregate monthly active user base while its instant-messaging software QQ has 600 million users.

The wide-moat company has been investing in areas with strong competitive advantages including cloud, business services, enterprise software, and high production value games targeting the global market. “The trend for enterprises to digitalize, especially in light of COVID-19, and the proven business model of cloud in the West has established the need to invest in business services,” says a Morningstar equity report.

As well, the Chinese tech juggernaut’s short-form video strategy has improved to include both the long- and short-form video platforms.

Tencent is particularly ambitions to expand its dominance in the global gaming industry. “It leverages globally popular console and PC gaming IPs of its investees or popular anime IPs and develops mobile games for the international market,” notes Morningstar equity analyst, Chelsey Tam, who appraises the stock to be worth US$103.

 

Vikram Barhat is a Toronto-based financial writer. This article does not consider the circumstances of any investor and you should consider financial advice to check whether these stocks are suitable for your portfolio.


Try Morningstar Premium for free


 

RELATED ARTICLES

The connectivity revolution is only just beginning

Why valuation multiples fail in an exponential world

Why it's a frothy market but not a bubble

banner

Most viewed in recent weeks

How to enjoy your retirement

Amid thousands of comments, tips include developing interests to keep occupied, planning in advance to have enough money, staying connected with friends and communities ... should you defer retirement or just do it?

Results from our retirement experiences survey

Retirement is a good experience if you plan for it and manage your time, but freedom from money worries is key. Many retirees enjoy managing their money but SMSFs are not for everyone. Each retirement is different.

A tonic for turbulent times: my nine tips for investing

Investing is often portrayed as unapproachably complex. Can it be distilled into nine tips? An economist with 35 years of experience through numerous market cycles and events has given it a shot.

Rival standard for savings and incomes in retirement

A new standard argues the majority of Australians will never achieve the ASFA 'comfortable' level of retirement savings and it amounts to 'fearmongering' by vested interests. If comfortable is aspirational, so be it.

Dalio v Marks is common sense v uncommon sense

Billionaire fund manager standoff: Ray Dalio thinks investing is common sense and markets are simple, while Howard Marks says complex and convoluted 'second-level' thinking is needed for superior returns.

Fear is good if you are not part of the herd

If you feel fear when the market loses its head, you become part of the herd. Develop habits to embrace the fear. Identify the cause, decide if you need to take action and own the result without looking back. 

Latest Updates

Economy

The paradox of investment cycles

Now we're captivated by inflation and higher rates but only a year ago, investors were certain of the supremacy of US companies, the benign nature of inflation and the remoteness of tighter monetary policy.

Shares

Reporting Season will show cost control and pricing power

Companies have been slow to update guidance and we have yet to see the impact of inflation expectations in earnings and outlooks. Companies need to insulate costs from inflation while enjoying an uptick in revenue.

Shares

The early signals for August company earnings

Weaker share prices may have already discounted some bad news, but cost inflation is creating wide divergences inside and across sectors. Early results show some companies are strong enough to resist sector falls.

Property

The compelling 20-year flight of SYD into private hands

In 2002, the share price of the company that became Sydney Airport (SYD) hit 80 cents from the $2 IPO price. After 20 years of astute investment driving revenue increases, it sold to private hands for $8.75 in 2022.

Investment strategies

Ethical investing responding to some short-term challenges

There are significant differences in the sector weightings of an ethical fund versus an index, and while this has caused some short-term headwinds recently, the tailwinds are expected to blow over the long term.

Investment strategies

If you are new to investing, avoid these 10 common mistakes

Many new investors make common mistakes while learning about markets. Losses are inevitable. Newbies should read more and develop a long-term focus while avoiding big mistakes and not aiming to be brilliant.

Investment strategies

RMBS today: rising rate-linked income with capital preservation

Lenders use Residential Mortgage-Backed Securities to finance mortgages and RMBS are available to retail investors through fund structures. They come with many layers of protection beyond movements in house prices. 

Sponsors

Alliances

© 2022 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. Any general advice or ‘regulated financial advice’ under New Zealand law has been prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892) and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, without reference to your objectives, financial situation or needs. For more information refer to our Financial Services Guide (AU) and Financial Advice Provider Disclosure Statement (NZ). You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.