The riskiest segment of the technology sector is outperforming its larger peers at the fastest pace in nearly six years, prompting multiple Wall Street market strategists to warn investors holding these stocks: get out while you still can.
Goldman Sachs’ (GS) basket of profitless technology companies rose 27% in May, outperforming the Nasdaq 100 Index by 17 percentage points, marking its largest monthly excess return since November 2020. So far this year, the basket has climbed 57%, while the S&P 500 has gained just 11% over the same period. This profitless stock basket spans a wide range of areas, including small AI companies such as NextNav Inc. and BigBear Holdings Inc., as well as drone manufacturers like Unusual Machines Inc. — the latter’s stock more than doubling in May.
After such a sharp surge, the JPMorgan (JPM) market intelligence team led by Andrew Taylor believes that, given the potential for Treasury yields to remain elevated, it is prudent for investors to “stay vigilant towards the riskiest (hottest) parts of the technology sector.” Taylor advocates shifting funds into high-quality growth stocks within the sector, especially against a backdrop of climbing bond yields, which tend to hit small, loss-making companies the hardest. He adds that stock buybacks by larger, more profitable tech companies support this rotation into quality assets.
Mark Hackett, chief market strategist at Nationwide, urges investors to exercise caution regarding the surge in unprofitable tech stocks, citing multiple risks including rising borrowing costs, as well as a somewhat counterintuitive risk: the mere fact that these companies might start turning a profit. He explains that most of these companies tend to see their stock prices fall once they begin making money, because investors then have tangible fundamentals with which to truly evaluate their value.
Jonathan Golub, chief equity strategist at Seaport Global Holdings LLC, states that rising U.S. Treasury yields are becoming an increasing problem for the entire technology sector, as larger companies are borrowing funds to finance the construction of data centers used to power artificial intelligence. He points out that even companies not carrying debt themselves become more sensitive to interest rates because their customers are taking on more debt. Michael O’Rourke, chief market strategist at JonesTrading Institutional Services, adds that the broad-based rally across the tech sector is itself a reason for caution, and that profitless tech stocks are pushing this risk to even greater extremes.
