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The influence of technology in the markets eclipses the Dot-Com bubble peak

Tech companies are expected to end the year with their largest share of the stock market of all time, surpassing a dot-com era peak in the latest illustration of their growing influence on global consumers.

Companies that do everything from making phones to operating social media platforms now account for nearly 40% of the S&P 500, on the verge of eclipsing a record 37% from 1999, according to a Dow Jones Market Data analysis of annual market value data. going back 30 years. Apple Inc., which became the first US company to reach a market cap of $ 2,000 billion earlier this year, alone accounts for more than 7% of the index. At the start of last month, it made up 8% of the S&P, the largest share on record for any stock in data going back to 1998.

S&P 500 Share of Total Market Value, by Sector

Industrial

and materials

Industrial

and materials

Industrial

and materials

Industrial

and materials

Despite a recent pullback by popular tech stocks like Apple and Netflix Inc.,

NFLX -2.06%

Many of these companies remain among the market leaders for 2020, propelling the S&P 500 to a gain of almost 8% for the year and keeping it near record levels during the economic downturn induced by the coronavirus. Tech stocks lifted markets early last week before pulling them lower later in the week, underscoring their influence on major stock indexes.

Trends such as remote working and cloud computing are driving the growth of these companies, helping technology companies grow their businesses at a time when many are struggling. However, the concentration of earnings in a small group of companies worries many investors, who fear that stocks are too dependent on the sector and that a significant drop in a few stocks could cause the markets to fall.

Previous spikes in a sector’s influence on the S&P 500 preceded sales. The tech industry tumbled after the dot-com bubble burst. The influence of banks in the markets peaked in 2006 before the financial crisis, and energy stocks slipped after reaching a new high of their share in the index in 2008.

Few analysts say tech stocks are as overvalued as they were two decades ago, with solid earnings growth and near-zero interest rates justifying much of the group’s recent rise. But many investors are bracing for more volatility in a sector that has grown remarkably fast and has dragged the rest of the market with it.

“We have a mandatory digital lifestyle,” said Alison Porter, an industry portfolio manager at Janus Henderson Investors. She remains confident in the biggest tech companies because of their reliable growth and importance to people staying at home during the pandemic.

Investors will be watching the next round of third-quarter results from companies like Netflix this week, along with the latest weekly jobless claims figures to gauge the health of the economy.

Because Congress has failed to pass additional stimulus, many traders are reluctant to favor parts of the market that are more directly related to economic growth. This was also true throughout the slow but robust expansion that ended earlier this year. While data shows tech giants employ fewer workers than some other previous market leaders, they invest heavily in their businesses and allow other businesses and consumers to buy and sell more goods and services. effectively.

Howard Marks, co-founder of investment giant Oaktree Capital Group LLC, said in a recent note to clients that measures of the cost of tech stocks relative to current earnings may actually underestimate the potential of these companies because they spend so much to accelerate growth.

Analysts estimate that the tech sector’s share of S&P 500 company earnings could reach around 36% this year, according to FactSet data. The information technology sector has a price / earnings ratio of 28 based on the group’s earnings for the past year, compared to a ratio of 24 for the S&P 500. Communication services firms are trading at 25 times their earnings. profits, while Apple, Microsoft Corp.

, Facebook Inc.

and alphabet Inc.

have ratings in the mid-1930s. Netflix’s ratio is around 90, while Amazon.com Inc. of

is about 130.

Even for the more expensive Internet companies, many investors are willing to pay for their rapid growth.

“They have received an extra boost over the past 10 years because the overall economic environment has been lackluster,” said David Lebovitz, global market strategist at JP Morgan Asset Management. He recommends that clients give preference to companies in the industry that are not as expensive as the most popular internet stocks.

At the same time, frantic trading in the most popular internet companies remains a concern for many market watchers. Some of this activity has taken place in options related to technology stocks. Options give the holder the choice to buy or sell a stock at a certain price on a specific date. Banks and other firms that sell options to investors often hedge against rising or falling prices by negotiating technology investments themselves, a force that can exacerbate volatility. Japanese conglomerate SoftBank Group Corp.

was a big buyer of technology stock options earlier this year.

The analysis of technology concentration in the S&P 500 is based on companies in the information technology and communication services industries. In particular, this group excludes Amazon, the e-commerce giant in the consumer discretionary sector. The inclusion of Amazon, which has a market value of around $ 1.6 trillion, would further strengthen the tech sector’s influence in the markets.

Since the S&P 500 is weighted by a company’s market value, the largest internet companies have eclipsed declines in several sectors this year. In another illustration of the group’s strength during the pandemic, the S&P overtakes a version of the index that gives every stock an equal weight of nearly 10 percentage points this year, a spread believed to be the highest since the end. from the 1990s.

“The longer this context lasts, the further they will move away from the pack,” said Amanda Agati, chief investment strategist at PNC Financial Services Group, which favors companies more related to remote working and recent learning like the technology, health. -Care and basic consumer businesses.

Amazon and other large internet companies have come under increasing regulatory scrutiny in recent weeks, with a Democratic-led House of Representatives panel recently concluding that Congress should consider forcing the giants technology to separate their dominant online platforms from other industries.

SHARE YOUR THOUGHTS

What future for technology stocks? Will their domination of the stock market continue into the next year? Why or why not? Join the conversation below.

Few analysts expect the biggest tech companies to be dismantled anytime soon and regulatory measures often take a long time to materialize, but many investors believe that regulation could be another source of volatility in the weeks to come.

“The only thing that makes me really nervous as a tech bull is the likelihood of government intervention,” said Jacob Walthour, CEO of Blueprint Capital Advisors. Nonetheless, he recommends customers prioritize tech stocks, e-commerce companies like Amazon and electric car maker Tesla. Inc.

because of their growth potential.

Write to Amrith Ramkumar at amrith.ramkumar@wsj.com

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