Tech Had it Rough in Q1, But Don't Run Away Just Yet

April Fool's Day 2021 was no joke as the S&P 500 hit an all-time, closing at almost 4,020.

That's more than 1,000 points tacked on since July 2019. Over that period, five stocks – Facebook, Apple, Amazon, Microsoft and Google parent Alphabet (FAAMG) – accounted for 44% of that 1,000-point gain, according to the Wall Street Journal. In other words, the technology sector was the primary driver of domestic equities' upside over that span.

That wasn't the case in the first quarter. Using the sector SPDR exchange traded funds as the bogeys, the Technology Select Sector SPDR (NYSEARCA:XLK) gained just 4.4% in the first three months of 2021.Only XLK's consumer staples and utilities counterparts delivered more lethargic showings.

Obviously, some of that lag is attributable to the rotation into cyclical value sectors, all of which easily outpaced tech in the January through March period. While the move to value appears to have some legs, advisors shouldn't talk clients out of tech. 

Don't Fret About Rising Bond Yields

Of course, that's easier said than done and as XLK indicates, the surge in 10-year yields weighed on tech in the first quarter. That's by virtue of tech companies having longer duration cash flows, making them more sensitive to rising rates. Some market observers believe that scenario is overdone.

“The recent bond yield spike has been blamed for pressuring tech stocks as they are seen as vulnerable to rising rates,” notes BlackRock. “We believe this view is too simplistic: tech is a diverse sector and the driver of higher yields matters more than the rise itself. Our new nominal theme implies central banks will be slower to raise rates to curb inflation than in the past, supporting our pro-risk stance and preference for tech.”

Advisors discussing tech with jittery clients should highlight some important points. First, the sector isn't scuffling because of declining earnings power. Second, it pays to note what's driving 10-year yields higher and it's indications that the Federal Reserve will soon raise borrowing costs.

“The 'term premium tantrum' mostly reflects investors requiring higher compensation for the now greater risks to portfolios presented by government bonds and inflation, in our view,” said BlackRock. “This makes equities even more appealing than bonds in a multi-asset context – and suggests any further sell-offs in tech may present opportunities. We believe tech companies beating earnings expectations once again will be rewarded if bond yields settle back into a range.”

Other Reasons to Stick with Tech 

With inflation becoming an increasingly prominent part of the 2021 investment landscape, timing exactly when 10-year yields will stop rising and when tech will be more inviting is a fool's errand.

The sector's earnings power remains strong, there's an emerging income proposition and the Nasdaq-100 Index is just 4% below its all-time high – all signs there's still a lot to like with technology stocks. And there is.

“We maintain a positive tactical and strategic view on the tech sector. Any further 'term premium tantrum' may present tactical opportunities,” adds BlackRock. “On a strategic basis, we see tech supported by structural growth trends – and as one of the sectors set to benefit most from the 'green' transition.”

Bottom line: Near-term bond market issues don't alter the positive long-term outlook for the technology sector and that's a message to convey to clients.