Technology

In yesterday's Weekly Report, we outlined our top ten reasons to underweight the technology sector, an out of consensus call based on the sector's resilience during the past few months' of broad market turmoil. At the root of our concern is that tech sector productivity growth is eroding at the same time that previously bulletproof balance sheets are slowly deteriorating. Declining sector productivity can be remedied through increased capital spending, but the chart shows that tech has underinvested as a share of sales for the better part of a decade. While the latter is slowly creeping higher, it will take time before it feeds into increased efficiency and faster earnings growth. Worse, our overall capital spending model is sinking steadily (bottom panel). In particular, the financial and public sectors have traditionally been large technology spenders. Despite ultra-low borrowing costs, government spending is still politically constrained and thus on a tight leash. Meanwhile, the financial sector has already ramped up its capital spending significantly (middle panel), without a corresponding positive impact on new order growth, signaling that weakness from other end markets has been a large drag. If the financial sector pulls in its horns as overall credit quality sours, it will remove a support for tech capital spending. We are bearish on relative performance prospects, and recommend underweight positions. Please refer to yesterday's report for more details. End Of The Line For The Tech Sector End Of The Line For The Tech Sector

As confidence in the sustainability of corporate sector profitability declines, the multiple accorded to equities should recede. Ten reasons to stay underweight the tech sector. Initiate an overweight position in gold shares.

The previous Insight showed that semiconductor top-line growth remains under siege. Worse, there appears to have been little effort to realign cost structures to slower sales. The latter will become even more critical in the coming quarters, because pricing pressures are set to intensify. Our global semi inventory proxy is accelerating. Slowing demand has not been met with a sufficient output reduction to rebalance the market. Utilization rates are hitting new lows, and Taiwan export prices have plunged. These trends are a significant pricing power threat, and will compound profit margin pressures. We continue to recommend a high conviction underweight. The ticker symbols for the stocks in this index are: INTC, TXN, AVGO, MU, ADI, SWKS, LLTC, XLNX, NVDA, MCHP, QRVO, FSLR. (Part II) Semiconductors Are Losing Their Charge (Part II) Semiconductors Are Losing Their Charge

Semiconductor stocks finished last year on a strong note, supported by a surge in M&A and hopes that low oil prices would spur an increase in consumer spending, particularly on electronics. While the latter has improved, the M&A backdrop is becoming more hostile as the cost and access to capital become more restrictive. We put this group on our high-conviction underweight list to reflect our concern that once M&A euphoria faded, a renewed focus on fundamental profit drivers would trigger a de-rating. Apart from better spending on electronics, the data continues to support our bearish call. Global semi sales are shrinking, with key producing countries like Korea and Taiwan suffering from a steep export contraction. That implies heightened liquidation pressures, which will undermine profit margins. Worse, semiconductor companies have been slow to downsize despite threats to top-line growth, adding to profit margin pressures, please see the next Insight. The ticker symbols for the stocks in this index are: INTC, TXN, AVGO, MU, ADI, SWKS, LLTC, XLNX, NVDA, MCHP, QRVO, FSLR. (Part I) Semiconductors Are Losing Their Charge (Part I) Semiconductors Are Losing Their Charge

The defensive qualities of the S&P data processing index have served investors well in recent years, particularly given its hedge against deflation pressures (top panel). However, the index is now priced for perfection and our Indicators suggest that peak performance is in the rearview mirror. Industry sales are linked to transaction volumes. Real consumer spending growth is slipping, despite rising wage inflation, reflecting an increase in the personal savings rate. Access to credit is deteriorating, on the margin, and consumers demonstrate little appetite to re-lever. The slide in revenue is hitting profit margins, as both capital spending and SG&A expenses are accelerating as a share of turnover. Meanwhile, the ISM services index is starting to play catch up with the decline in the ISM manufacturing index. A closing of this gap has previously warned that investor appetite for the services-based data processing group may diminish, at least for a few months. As a result, we recommend taking profits of 23% and downshifting to neutral. The ticker symbols for the stocks in this index are: ADP, ADS, CSC, FIS, FISV, MA, PAYX, TSS, V, WU, XRX. bca.uses_in_2016_02_17_001_c1 bca.uses_in_2016_02_17_001_c1

U.S. dollar softness may be sparking a subtle shift in sub-surface dynamics, to the benefit of select deep cyclical industries. Switch from rails into electrical equipment, and take profits in data processing.