How Microsoft And Alphabet Defied The Skeptics

Corporate earnings reports are beginning to roll out, and they are mostly dreary. However, that may not be a bad thing for tech share prices.

Executives at Alphabet (GOOGL) and Microsoft (MSFT) announced on Tuesday that quarterly financials came-in at the low end of expectations. Shares advanced sharply in after-hours trade.

Stock prices reflect future expectations, not past grievances.

Big technology issues like Alphabet, Microsoft, Amazon.com (AMZN), Apple (AAPL) and Meta Platforms (META) have been under tremendous pressure. Some of this is a simple reversion to the mean. Tech performed best in 2010 coming out of the Great Recession. Gains accelerated in 2020 following the pandemic.

Bears argue the era of big tech is now over. Not so fast.

The bearish assertion negates the generational investment in digital transformation strategies. Bears say that investment was simply pulled forward into 2020, to get ready for work-from-home and e-commerce. This is naïve, at best. The largest enterprises in the world are moving workflows away from on-premises data centers and storage, to the public cloud. And sales did not peak in 2020.

Analysts at Gartner predict that information technology spending will increase in 2022 by 4% as firms ramp up investment in digital strategies. That is a lot of money sloshing around, and the winners are surprisingly few.

Reality is no match for a good narrative though, especially during a bearish phase.

It’s easy to spread doom and gloom about the future when stocks are trending lower. Our basic instinct is to believe that the weakness we see in share prices is an accurate predictor of future prices. It would be nice if investing was that easy. Sadly, it is not.

Benjamin Graham, the father of value investing, famously said that in the short term the stock market is a voting machine, tallying up which firms are popular and unpopular. The gist is that opinions about stocks can be fickle. Events that seem incredibly important today may become irrelevant in the future.

Bears believe the future of tech businesses is in peril because share prices have come down so far. It’s the sort of magical thinking that leads investors to repeatedly buy stocks at high prices, then sell them at lower prices.

I’m not pretending this is a bad strategy for traders. I’m much happier buying stocks for a trade that are making new highs. Those issues are mostly likely to continue to trade even higher, for a while. However, this is not always the best strategy for longer-term investors.

Share prices at the extremes ultimately reflect all of the potential good, or bad news that the future will bring. Valuation extremes usually lead to reversals.

That may be where big tech is headed.

Alphabet earned $1.21 per share in the second quarter, weaker than the forecast of $1.28 per share, according to Refinitiv. Revenue also missed, at $69.69 billion against the expectation of $69.9 billion. Even YouTube, often a bright spot, failed to meet expectations. The video sharing platform had sales of $6.28 billion during the quarter. A consensus of analysts was expecting $6.41 billion.

Admittedly, it is early in the bottoming process. Although Alphabet shares moved higher Tuesday after hours despite the bad financial numbers, it would be premature to bet that a legitimate bottom is now in place. Buyers will need to soak up all of the supply of stock for sale at these lower levels.

Alphabet shares surged about 5% Tuesday evening, to $110.13. The stock traded to a low of $101 in May, and as high as $151 in February. Tuesday’s late move is a good start at recouping some of the losses, yet shares have a long way to travel before the start on a longer-term upward trajectory.

Those trends begin when stocks stop declining on bad news. That time for big tech to set a cycle low may be shaping up.

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