Tech Panic? Why Fears Are Overblown

There's a simple reason why tech stocks are falling more in this pullback. Find out about it here.

Apr 7, 2014 at 12:30PM

Monday started off on the same poor footing on which last week ended, as the Dow Jones Industrials (DJINDICES:^DJI) dropped more than 135 points by 12:30 p.m. EDT. Friday's big setback came on a major drop in the Nasdaq Composite (NASDAQINDEX:^IXIC), calling into question whether the technology rally that has pulled the Nasdaq to 14-year highs has left the tech-heavy index on the brink of a crash. Yet there are several reasons why fears of a tech panic are overly dramatic.

The first reason is simple but still worth mentioning: The Nasdaq has climbed much more sharply over the past year than the Dow, so expecting the Dow to collapse even in a larger drop for the Nasdaq isn't necessarily your smartest move. Take a look at the disparity:

^DJI Chart

Dow vs. Nasdaq data by YCharts.

As you can see, the Nasdaq has more than doubled the performance of the Dow since April 2013. The more recent decline in the Nasdaq since the beginning of March does compare unfavorably to the Dow's relatively flat performance over that time frame, but it still represents only a small portion of the tech sector's overall outperformance over that span.

More importantly, it's essential not to treat the entire tech sector as a single unit. Take a look at two exchange-traded funds, one of which focuses on social-media stocks, while the other has a broader-based approach:

SOCL Chart

Total Return data by YCharts.

Again, you can see that the performance of the ETF that owns stalwart, big-name tech companies -- many of which you'll find in the Dow Jones Industrials -- has had much smoother performance than the social-media-focused ETF. It stands to reason that in a correction, the social-media stocks that have had the strongest upward over the past year would also feel the biggest tug of gravity from even a short-term pullback.

What to watch for
It's true that the U.S. isn't the only place to look for overpriced technology stocks. Throughout the world, you'll find companies whose investors make inevitable comparisons to well-establish U.S. Internet-based technology giants. Especially in emerging-market nations, those Internet stocks have borne an eerie resemblance to how Internet stocks in the U.S. behaved in the late 1990s. It's not unreasonable to expect a similar fate for the many international stocks that don't have the fundamentals to back up their share prices.

Fortunately, the same isn't true for tech investors in Dow stocks. Even after run-ups in several Dow tech stalwarts, valuations on an earnings-multiple basis remain subdued -- and, in fact, are cheaper than many companies outside technology.

So before you let talk of a tech panic lead you to sell all your technology stocks, take a closer look at your portfolio. If you own the right tech stocks, then you should hope that a temporary drop in prices will offer what could become the buying opportunity you've been waiting for.

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Dan Caplinger has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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