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IT sector valuations on Wall Street now reasonable; remain optimistic despite volatility

Some IT sector names have seen a correction in recent weeks, which could have been led by investors rotating out of technology winners from last year.
(Image: REUTERS)

IT sector valuations on Wall Street now seem to be receding to reasonable levels, after having remained elevated early in 2021, according to Jonathan Curtis Research Analyst, Portfolio Manager, Franklin Equity Group. In a recent blog post, Jonathan Curtis said that valuations of the sector now appear more reasonable in relative terms following the recent period of selling pressure. “We also believe that the sector likely should command a valuation premium to the broader market given the improving quality of companies within the space — a growing number of recurring revenue sources, strong balance sheets and strong overall EBITDA margins — and their growth characteristics,” he added.

Digital transformation to help

Year-to-date the S&P 500 IT index has soared 8%. In the first half of May, the index saw a sharp fall. Jonathan Curtis believes the information technology sector offers solid exposure to strong secular opportunities relating to the digital transformation (DT) theme. He added that the DT theme is just getting started and also could prove a solid cyclical winner with high leverage to post-pandemic reopening and infrastructure investment activity.

The DT theme, Curtis added, is about using software and data to better understand customers and business processes and technology to radically transform how businesses work. “We believe DT represents a multi-trillion dollar opportunity that is still in its early days. While the pandemic shone a bright light on our thesis, we do not think that this opportunity is over,” he said. IT companies, across the globe, have witnessed high demand for digitalisation throughout the pandemic. Jonathan Curtis said this trend will continue as firms progress or evolve in their digital journeys.

Technology now both secular and cyclical growth area

Some IT sector names have seen a correction in recent weeks, which could have been led by investors rotating out of technology winners from last year and into names that are expected to benefit from expanded infrastructure spending, according to Jonathan Curtis. He adds that technology has now assumed the role of both secular as well as cyclical growth area. “Secular growth supported by the long-term trend of digital transformation, but on the cyclical side, enterprises and consumers spend more on technology when their prospects are improving.”

Application software, semiconductors, and systems software are some areas of the market which contain many quality businesses that have secular growth opportunities related to digital transformation, according to Jonathan Curtis.

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