Looking At QQQ For The Second Half

The PowerShares QQQ Trust, Series 1 (ETF) QQQ, the Nasdaq-100 tracking exchange-traded fund, is scuffling a bit as highlighted by a decline of more than 3 percent over the past week. Still, the tech-heavy fund is higher by almost 15 percent year to date, indicating that there has been ample enthusiasm for technology and internet stocks, including the FAANG quintet.

Even with the sector's recent struggles, technology is the best-performing group in the S&P 500 this year. Technology is the largest sector weight in the benchmark U.S. equity index at about 23 percent, but QQQ devotes 57.5 percent of its weight to technology stocks, more than double the 22.3 percent the ETF allocates to consumer discretionary names.

With the technology sector soaring, at least for most of this year until recently, and concerns creeping up that the group is expensive, some market observers are speculating that the Nasdaq could be poised for a sequel to the 1999–2000 tech/internet bubble. However, some data points suggest a redux of that scenario is unlikely.

A Different World

“Technology has been the best-performing sector of the S&P 500 Index in 2017,” said PowerShares in a recent note. “As such, some investors are drawing comparisons between today’s technology bull market and the infamous dot-com bubble of the late 1990s, which reached its peak in March 2000. Both then and now, technology stocks were catalysts behind major market rallies. But that’s where the similarities end, in my view. While technology has delivered the best sector performance within the S&P 500 Index over the past three years (July 29, 2014, through June 29, 2017), we are still nowhere near the bubble status of 17 years ago.”

Investors concerned about a bubble are apt to watch the market's treatment of the largest technology stocks, including those comprising the FAANG and FAAMG acronyms. Those are Apple Inc. AAPL, Alphabet Inc. GOOG GOOGL, Microsoft Corporation MSFT, Amazon.com, Inc. AMZN, Facebook Inc. FB and Netflix, Inc. NFLX.

In order, Apple, Microsoft, Amazon, Facebook and Alphabet are QQQ's top five holdings, combining for about 40 percent of the ETF's weight. Said another way, those stocks represent more than three and a half times QQQ's total healthcare weight.

Not As Pricey Today

Apple, Alphabet, Amazon, Facebook and Microsoft are referred to as the “Power Five” of technology stocks (Amazon is actually a consumer discretionary name), and while the average price-to-earnings ratio on these stocks is above the S&P 500, it is not close to average P/E on the five biggest tech names in early 2000.

“Today’s ‘Power Five’ trade at an aggregate of 30 times trailing earnings,” said PowerShares. “That compares with an aggregate of 78 times trailing earnings for the five largest tech stocks in March 2000. This difference equates to total valuations for the five largest technology firms that are 60% lower than they were 17 years ago. If each of these companies saw their stock prices double (and we’re not suggesting they will), their market capitalization-to-net income multiple would rise to 60x, which would still be less than the five largest technology stocks at the height of the tech bubble.”