THE fast-growing software companies that hit the technology stock selloff this year have suddenly become market stars, and profits are a big reason why.
Companies from Atlassian Corp. to Alteryx Inc. and Cloudflare Inc. reported strong results, underscoring tailwinds for the industry that bulls say remain intact even in a weak economy.
At the same time, valuations have fallen after a brutal first half and, just as importantly, sentiment toward the Federal Reserve has changed and investors are now less concerned that the central bank will go too far in raising rates. interest rate.
“I am optimistic about the ability of these stocks to outperform in the intermediate and long term, as they are fueled by underlying trends that remain relatively strong,” said Hilary Frisch, senior research analyst at ClearBridge Investments. “Valuations are at multi-year lows in some cases, but the main picture has become clearer.”
While none of these stocks are household names like industry giants Microsoft Corp. or Oracle Corp., investors large and small flocked to them during the bull market of the past two years because of their rapid sales growth and, in many cases, their exposure to hot sectors such as cloud computing or cybersecurity. This year has been tough.
A Goldman Sachs Group Inc. basket fell 41 percent in 2022. of high-growth software, more than twice the decline of the Nasdaq 100 Index, and steeper than the 23 percent decline of the iShares Expanded Tech-Software Sector ETF. The fall came as the Fed began aggressively raising rates to fight inflation, a counter to the high value of stocks priced into their far-future prospects.
Investors, however, looked positively on Fed chairman Jerome Powell’s comment last month that the central bank would slow the pace of hikes at some point, suggesting a friendlier environment for U.S. stocks. growth. The yield on the 10-year Treasury slipped from a recent peak near 3.5 percent to below 2.7 percent, easing some of the pressure on growth-stock multiples.
Since the June 16 close at the low for the Nasdaq 100, Goldman’s software basket has easily outperformed, jumping nearly 30 percent.
“In general, software vulnerability is 100 percent about the macro environment, not the fundamentals,” said Jordan Klein, a managing director and tech analyst at Mizuho Securities, citing some exceptions, such as the beneficiaries of the pandemic. , such as Zoom Video Communications Inc. Otherwise, he said, the corporate results illustrate the solid strength of their businesses.
The Goldman basket trades at 7.8 times forward sales, about half its average back in 2018. In early 2021, it trades at about 25 times estimated sales. The Nasdaq 100 has a multiple of 4 times estimated sales.
In specific reports, ZoomInfo Technologies Inc. rose more than 10 percent after its results, while Confluent Inc. rose 11 percent after beating its forecast and Alteryx rose nearly 20 percent after its own bullish forecast. Atlassian, HubSpot Inc., and Cloudflare all gained after Thursday’s reports, with Atlassian up 8.2 percent and Cloudflare up 14 percent.
The sector was not uniformly strong, with ServiceNow Inc. and Datadog Inc. have both collapsed after their reports. But of the 38 companies in the S&P 500 software and tech services sector that reported, 28 beat earnings estimates, while seven missed. A key question for investors is how long the growth will last if the economy slips into a longer recession. Mark Haefele, chief investment officer at UBS Global Wealth Management, wrote that it was too early to return to growth stocks, citing unprofitable tech as an area that could be particularly vulnerable. “Rising capital costs, tightening financial conditions, and growing recession risks are likely to limit upside for unprofitable tech companies given limited near-term scope for strong expansion. margin,” he wrote.
However, software companies are putting up the kind of growth that investors want. Wall Street expects revenues for the software and services sector to grow by about 12 percent in 2023, compared with the 15 percent pace expected in late February, according to Bloomberg Intelligence data. Earnings are expected to grow 11 percent, down from the 12 percent pace expected in early July.
While the stock of Uber Technologies Inc. is on track for the best week ever as a public company, shares of Lyft Inc. are on course for their biggest weekly gain in 20 months. Both ride-hailing firms announced better-than-expected quarterly results this week. Lyft rose 5.6 percent after the company reported the highest revenue in its history.
Image credits: Bloomberg
