Weekly Market Update (June 19 – 23, 2017)

By Josh Olson June 23, 2017

Canadian stocks rose on the week, partially recovering declines witnessed last week. U.S. stocks were relatively flat for the third straight week as news regarding potential policy changes has been met with tempered expectations from investors. While moves in the U.S. stock market have been muted, the price of oil fell for the fifth straight week, dipping below $43 per barrel for the first time in 18 months. However, the weakness in the energy sector was balanced out with the U.S. Federal Reserve Board’s announcement that all 34 banks tested passed the quantitative portion of this year's stress test. It's easy to become complacent when stock market volatility is low for an extended period of time. We think investors should use pauses in the market to review their portfolio's balance among stocks, bonds and international investments so they will be prepared when volatility creeps back into the market.

Not Your Father's Tech

On the heels of strong year-to-date performance (up 19% vs. 9% for the S&P 500), the technology sector's volatility in recent weeks has evoked comparisons to the tech bubble of the late 1990s. While investors’ concerns are understandable, we believe that fundamentally, the sector is on a far better footing than it was 17 years ago

Yesterday vs. Today

The technology sector only accounts for 3% of the TSX Index, but is the largest sector in the S&P 500, totaling 22% of its total market value. However, it is nearly 50% smaller than the 35% it boasted at the peak of the tech bubble (March 2000). While its S&P weighting has decreased, tech accounts for 38% of S&P earnings today, up from 28% at its peak in 2000. More importantly, the valuation today is not nearly as rich, trading at 20.2 times trailing 12-month earnings, compared with the TSX at 21.1 times and S&P at 19.5 times. In other words, the technology sector is trading nearly in line with the market but offers some of the highest earnings growth potential of all U.S. sectors, based on our estimates. As a result, we believe the strong performance of the technology sector and heavy weighting in the S&P are justified based on solid sector fundamentals and high earnings growth potential.

Another difference from 17 years ago is that the technology sector has evolved from being a very cyclical and hardware-focused space, to offering a wide variety of investment options for multiple investment objectives. The sector ranges from cyclical hardware companies, which are highly dependent on economic growth, to software and services companies, which are often vital to the daily operations of a company and tend to be less cyclical. At the peak of the tech bubble, the sector was comprised of nearly 70% cyclical companies, causing bigger and more dramatic price swings due to their higher volatility. Today, more defensive industries such as software and services account for 60% of the sector, double the 2000 level.

As the sector has matured and profitability has increased, companies have also increased their dividends. Today, the sector offers a 1.4% dividend yield, which is roughly 10 times higher than its yield during the tech bubble. This strong dividend growth equates to an average year-over-year growth rate of nearly 15%, which is more than double the S&P's 6.8% dividend growth rate. We believe this strong dividend growth rate can continue as the pace of innovation and solid financial position enable future dividend increases.

Our Take

We believe that today’s skepticism of the technology sector is unwarranted, and the sector’s outperformance should not be compared to the tech bubble that peaked in March of 2000. In our opinion, the sector’s recent volatility has been the result of a shift in capital from top-performing technology stocks into underperforming sectors with the hope of finding other opportunities. Despite the uptick in recent volatility, we believe the long-term prospects for the sector remain intact. Today’s technology companies have proven business models and healthy balance sheets, and offer among the highest growth rates in earnings and dividends in the S&P for nearly the same valuation as other sectors.

The Stock & Bond Market

Index Close Week YTD
TSX 15,320 0.8% 0.2%
S&P 500 Index 2,438 0.2% 8.9%
MSCI EAFE* 1,886 0.5% 12.0%
10-yr GoC Yield 1.48% -0.05% -0.25%
Oil ($/bbl) $43.17 -3.5% -19.6%
Canadian US $0.75 -0.4% 1.3%

Source: Bloomberg. *5-day performance ending Thursday; Past performance does not guarantee future results.

The Week Ahead

Economic reports to be released next week include GDP for the month of April on Thursday and the Bank of Canada's Senior Loan Officer Survey on Friday.

Important Information

The Weekly Market Update is published every Friday.

Edward Jones does not provide access to past weekly summaries.

The S&P/TSX Composite Index and S&P 500 Index are unmanaged indices and cannot be invested into directly.
Diversification does not guarantee a profit or protect against loss
Dividends may be increased, decreased or eliminated at any time without notice.

Investors should understand the risks involved of owning investments, including interest rate risk, credit risk and market risk.

Special risks are inherent to international investing, including those related to currency fluctuations and foreign political and economic events.

The value of investments fluctuates and investors can lose some or all of their principal.

The content of this report is for informational purposes only and should not be interpreted as specific investment advice. Investors should make investment decisions based on their unique investment objectives and financial situation. While the information is believed to be accurate, it is not guaranteed and is subject to change without notice.

"Member - Canadian Investor Protection Fund"

Diversification does not guarantee a profit or protect against loss.

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